The intrinsic value of Bowlero Corp. (NYSE: BOWL) is potentially 60% higher in its stock price
Today we are going to do a simple overview of a valuation method used to estimate the attractiveness of Bowlero Corp. (NYSE:BOWL) as an investment opportunity by taking expected future cash flows and discounting them to their present value. This will be done using the discounted cash flow (DCF) model. Don’t be put off by the jargon, the underlying calculations are actually quite simple.
Businesses can be valued in many ways, which is why we emphasize that a DCF is not perfect for all situations. If you want to know more about discounted cash flow, the rationale for this calculation can be read in detail in the Simply Wall St analysis template.
Our analysis indicates that BOWL is potentially undervalued!
The calculation
We use what is called a 2-step model, which simply means that we have two different periods of company cash flow growth rates. Generally, the first stage is a higher growth phase and the second stage is a lower growth phase. In the first step, we need to estimate the company’s cash flow over 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.
A DCF is based on the idea that a dollar in the future is worth less than a dollar today, so we need to discount the sum of these future cash flows to arrive at an estimate of present value:
10-Year Free Cash Flow (FCF) Forecast
2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | |
Leveraged FCF ($, millions) | $143.3 million | $172.8 million | $194.5 million | $212.8 million | $228.1 million | $240.9 million | $251.8 million | $261.3 million | $269.7 million | $277.4 million |
Growth rate estimate Source | Analyst x2 | Analyst x2 | Is at 12.59% | Is at 9.41% | Is at 7.18% | Is at 5.62% | Is at 4.53% | Is at 3.76% | East @ 3.23% | Is at 2.85% |
Present value (millions of dollars) discounted at 7.8% | $133 | $149 | $155 | $157 | $156 | $153 | $149 | $143 | $137 | $131 |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = $1.5 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 2.0%. We discount the terminal cash flows to their present value at a cost of equity of 7.8%.
Terminal value (TV)= FCF_{2032} × (1 + g) ÷ (r – g) = US$277 million × (1 + 2.0%) ÷ (7.8%–2.0%) = US$4.8 billion
Present value of terminal value (PVTV)= TV / (1 + r)^{ten}= $4.8 billion ÷ (1 + 7.8%)^{ten}= $2.3 billion
The total value, or equity value, is then the sum of the present value of future cash flows, which in this case is $3.7 billion. The final step is to divide the equity value by the number of shares outstanding. Compared to the current share price of US$14.0, the company looks quite undervalued at a 38% discount to the current share price. Ratings are imprecise instruments, however, much like a telescope – move a few degrees and end up in a different galaxy. Keep that in mind.
Important assumptions
We emphasize that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. You don’t have to agree with these entries, I recommend that you redo the calculations yourself and play around with them. The DCF also does not take into account the possible cyclicality of an industry, nor the future capital needs of a company, so it does not give a complete picture of a company’s potential performance. Since we consider Bowlero 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 7.8%, which is based on a leveraged beta of 1.249. 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:
Valuation is only one side of the coin in terms of building your investment thesis, and it’s just one of many factors you need to assess for a company. It is not possible to obtain an infallible valuation with a DCF model. Preferably, you would apply different cases and assumptions and see their impact on the valuation of the business. If a company grows at a different pace, or if its cost of equity or risk-free rate changes sharply, output may be very different. Can we understand why the company is trading at a discount to its intrinsic value? For Bowlero, we’ve put together three fundamentals that you should consider:
- Risks: For this purpose, you must know the 1 warning sign we spotted with Bowlero.
- Future earnings: How does BOWL’s growth rate compare to its peers and the market in general? 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.
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