Is there an opportunity with the 38% undervaluation of Hasbro, Inc. (NASDAQ:HAS)?
Today we’re going to do a simple walkthrough of a valuation method used to estimate the attractiveness of Hasbro, Inc. (NASDAQ:HAS) as an investment opportunity by estimating cash flow company’s future and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model for this purpose. Before you think you can’t figure it out, just read on! It’s actually a lot less complex than you might imagine.
Businesses can be valued in many ways, which is why we emphasize that a DCF is not perfect for all situations. Anyone interested in learning a little more about intrinsic value should read the Simply Wall St.
See our latest analysis for Hasbro
What is the estimated valuation?
We use the 2-stage growth model, which simply means that we consider two stages of business growth. In the initial period, the company may have a higher growth rate, and the second stage is generally assumed to have a stable growth rate. To begin with, we need to obtain cash flow estimates for the next ten years. Wherever possible, we use analysts’ estimates, but where these are not available, we extrapolate the previous free cash flow (FCF) from the latest estimate or reported value. We assume that companies with decreasing free cash flow will slow their rate of contraction and companies with increasing free cash flow will see their growth rate slow during this period. We do this to reflect the fact that growth tends to slow more in early years than in later years.
Generally, we assume that a dollar today is worth more than a dollar in the future, and so the sum of these future cash flows is then discounted to today’s value:
10-Year Free Cash Flow (FCF) Forecast
2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | |
Leveraged FCF ($, millions) | $622.7 million | $818.8 million | $974.0 million | $1.09 billion | $1.18 billion | $1.26 billion | $1.33 billion | $1.39 billion | $1.44 billion | $1.48 billion |
Growth rate estimate Source | Analyst x5 | Analyst x6 | Analyst x1 | Is at 11.71% | Is at 8.77% | Is at 6.72% | Is at 5.28% | Is at 4.27% | Is at 3.56% | Is at 3.07% |
Present value (in millions of dollars) discounted at 7.7% | $578 | $706 | $780 | $809 | $817 | $809 | $791 | $766 | $736 | $705 |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = $7.5 billion
We now need to calculate the terminal value, which represents all future cash flows after this ten-year period. The Gordon Growth formula is used to calculate the terminal value at a future annual growth rate equal to the 5-year average 10-year government bond yield of 1.9%. We discount terminal cash flows to present value at a cost of equity of 7.7%.
Terminal value (TV)= FCF_{2031} × (1 + g) ÷ (r – g) = $1.5 billion × (1 + 1.9%) ÷ (7.7%–1.9%) = $26 billion
Present value of terminal value (PVTV)= TV / (1 + r)^{ten}= $26 billion ÷ (1 + 7.7%)^{ten}= $12 billion
The total value is the sum of the cash flows for the next ten years plus the present terminal value, which gives the total equity value, which in this case is $20 billion. To get the intrinsic value per share, we divide it by the total number of shares outstanding. Compared to the current share price of $89.2, the company appears to be good value at a 38% discount to the current share price. The assumptions of any calculation have a big impact on the valuation, so it’s best to consider this as a rough estimate, not accurate down to the last penny.
The hypotheses
We emphasize that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. Part of investing is coming up with your own assessment of a company’s future performance, so try the math yourself and check your own assumptions. The DCF also does not take into account the possible cyclicality of an industry or the future capital needs of a company, so it does not give a complete picture of a company’s potential performance. Since we view Hasbro as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighted average cost of capital, WACC) which factors in debt. In this calculation, we used 7.7%, which is based on a leveraged beta of 1.364. Beta is a measure of a stock’s volatility relative to the market as a whole. We derive our beta from the average industry beta of broadly comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable company.
Next steps:
Although a business valuation is important, it is only one of the many factors you need to assess for a business. It is not possible to obtain an infallible valuation with a DCF model. Instead, the best use of a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. If a company grows at a different rate, or if its cost of equity or risk-free rate changes sharply, output may be very different. Why is intrinsic value higher than the current stock price? For Hasbro, we’ve rounded up three relevant aspects you should explore:
- Risks: Take for example the ubiquitous specter of investment risk. We have identified 2 warning signs with Hasbro, and understanding them should be part of your investment process.
- Future earnings: How does the growth rate of HAS compare to its peers and the wider market? Dive deeper into the analyst consensus figure for the coming years by interacting with our free analyst growth forecast chart.
- Other high-quality alternatives: Do you like a good all-rounder? Explore our interactive list of high-quality actions to get an idea of what you might be missing!
PS. Simply Wall St updates its DCF calculation for every US stock daily, so if you want to find the intrinsic value of any other stock, do a search here.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.