Estimating The Intrinsic Value Of Megaport Limited (ASX:MP1)
The projected fair value for Megaport is AU$15.13 based on 2 Stage Free Cash Flow to Equity
With AU$15.03 share price, Megaport appears to be trading close to its estimated fair value
Our fair value estimate is 22% higher than Megaport's analyst price target of AU$12.45
Does the August share price for Megaport Limited (ASX:MP1) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by estimating the company's future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. There's really not all that much to it, even though it might appear quite complex.
Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.
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Is Megaport Fairly Valued?
We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To start off with, we need to estimate the next ten years of cash flows. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
Generally we assume that a dollar today is more valuable than a dollar in the future, and so the sum of these future cash flows is then discounted to today's value:
2026
2027
2028
2029
2030
2031
2032
2033
2034
2035
Levered FCF (A$, Millions)
AU$41.5m
AU$52.2m
AU$92.0m
AU$103.0m
AU$124.0m
AU$139.9m
AU$153.7m
AU$165.6m
AU$176.1m
AU$185.5m
Growth Rate Estimate Source
Analyst x8
Analyst x7
Analyst x2
Analyst x1
Analyst x1
Est @ 12.81%
Est @ 9.85%
Est @ 7.78%
Est @ 6.33%
Est @ 5.32%
Present Value (A$, Millions) Discounted @ 8.1%
AU$38.3
AU$44.7
AU$72.8
AU$75.3
AU$83.9
AU$87.5
AU$88.9
AU$88.6
AU$87.1
AU$84.8
("Est" = FCF growth rate estimated by Simply Wall St)Present Value of 10-year Cash Flow (PVCF) = AU$752m
We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (2.9%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 8.1%.
Terminal Value (TV)= FCF2035 × (1 + g) ÷ (r – g) = AU$185m× (1 + 2.9%) ÷ (8.1%– 2.9%) = AU$3.7b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= AU$3.7b÷ ( 1 + 8.1%)10= AU$1.7b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is AU$2.4b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of AU$15.0, the company appears about fair value at a 0.7% discount to where the stock price trades currently. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.
The Assumptions
We would point out 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 inputs, I recommend redoing the calculations yourself and playing with them. The DCF also does not consider the possible cyclicality of an industry, or a company's future capital requirements, so it does not give a full picture of a company's potential performance. Given that we are looking at Megaport 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 accounts for debt. In this calculation we've used 8.1%, which is based on a levered beta of 1.198. Beta is a measure of a stock's volatility, compared to the market as a whole. We get our beta from the industry average beta of globally comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.
See our latest analysis for Megaport
SWOT Analysis for Megaport
Strength
Debt is not viewed as a risk.
Weakness
Earnings declined over the past year.
Opportunity
Annual earnings are forecast to grow faster than the Australian market.
Current share price is below our estimate of fair value.
Threat
Revenue is forecast to grow slower than 20% per year.
Looking Ahead:
Although the valuation of a company is important, it is only one of many factors that you need to assess for a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Megaport, we've put together three further factors you should further research:
Risks: For instance, we've identified 1 warning sign for Megaport that you should be aware of.
Future Earnings: How does MP1's growth rate compare to its peers and the wider market? Dig deeper into the analyst consensus number for the upcoming years by interacting with our free analyst growth expectation chart.
Other High Quality Alternatives: Do you like a good all-rounder? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!
PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the ASX every day. If you want to find the calculation for other stocks just search here.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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