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Estimating The Fair Value Of NFI Group Inc. (TSE:NFI)

Simply Wall St
·6 min read

Today we will run through one way of estimating the intrinsic value of NFI Group Inc. (TSE:NFI) 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. Believe it or not, it's not too difficult to follow, as you'll see from our example!

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

See our latest analysis for NFI Group

The calculation

We are going to 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 begin with, we have to get estimates of 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, so we discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) estimate

2021

2022

2023

2024

2025

2026

2027

2028

2029

2030

Levered FCF ($, Millions)

US$114.7m

US$99.7m

US$91.2m

US$86.3m

US$83.4m

US$81.9m

US$81.3m

US$81.2m

US$81.6m

US$82.3m

Growth Rate Estimate Source

Analyst x4

Analyst x3

Est @ -8.49%

Est @ -5.45%

Est @ -3.31%

Est @ -1.82%

Est @ -0.78%

Est @ -0.05%

Est @ 0.47%

Est @ 0.82%

Present Value ($, Millions) Discounted @ 13%

US$102

US$78.3

US$63.5

US$53.2

US$45.6

US$39.6

US$34.9

US$30.9

US$27.5

US$24.6

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$499m

The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. 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 (1.7%) 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 13%.

Terminal Value (TV)= FCF2030 × (1 + g) ÷ (r – g) = US$82m× (1 + 1.7%) ÷ (13%– 1.7%) = US$747m

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$747m÷ ( 1 + 13%)10= US$223m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$722m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of CA$16.6, the company appears around fair value at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

dcf
dcf

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. If you don't agree with these result, have a go at the calculation yourself and play with the assumptions. 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 NFI Group 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 13%, which is based on a levered beta of 1.862. 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.

Next Steps:

Whilst important, the DCF calculation is only one of many factors that you need to assess for a company. It's not possible to obtain a foolproof valuation with a DCF model. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For NFI Group, we've compiled three further factors you should assess:

  1. Risks: For example, we've discovered 3 warning signs for NFI Group (1 can't be ignored!) that you should be aware of before investing here.

  2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for NFI's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.

  3. Other Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the TSX every day. If you want to find the calculation for other stocks just search here.

This article by Simply Wall St is general in nature. 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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