Is Magellan Trading At A 50% Discount? Estimating the intrinsic value of Magellan Aerospace Corporation (TSE:MAL) by taking the forecast future cash flows of the company and discounting them back to today's value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this.
Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation.
We use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. 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.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we discount the value of these future cash flows to their estimated value in today's dollars:
Present Value of 10-year Cash Flow (PVCF) = CA$381m
The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 1.7%. We discount the terminal cash flows to today's value at a cost of equity of 7.4%.
Terminal Value (TV)= FCF2030 × (1 + g) ÷ (r – g) = CA$56m× (1 + 1.7%) ÷ (7.4%– 1.7%) = CA$999m
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CA$999m÷ ( 1 + 7.4%)10= CA$489m
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CA$870m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of CA$7.6, the company appears quite undervalued at a 50% 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.
