Yahoo Finance Investors Are Undervaluing ON Semiconductor Corporation (NASDAQ:ON) By 36.89%
How far off is ON Semiconductor Corporation (NASDAQ:ON) from its intrinsic value? Using the most recent financial data, I am going to take a look at whether the stock is fairly priced by taking the expected future cash flows and discounting them to their present value. I will be using the discounted cash flows (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward. If you want to learn more about discounted cash flow, the basis for my calcs can be read in detail in the Simply Wall St analysis model. If you are reading this and its not September 2018 then I highly recommend you check out the latest calculation for ON Semiconductor by following the link below.
View our latest analysis for ON Semiconductor
What’s the value?
I use what is known as a 2-stage model, which simply means we have two different periods of varying growth rates for the company’s cash flows. Generally the first stage is higher growth, and the second stage is a more stable growth phase. In the first stage we need to estimate the cash flows to the business over the next five years. For this I used the consensus of the analysts covering the stock, as you can see below. I then discount this to its value today and sum up the total to get the present value of these cash flows.
5-year cash flow estimate
2019 | 2020 | 2021 | 2022 | 2023 | |
Levered FCF ($, Millions) | $852.64 | $1.04k | $1.21k | $1.42k | $1.64k |
Source | Analyst x8 | Analyst x3 | Est @ 16.5% | Est @ 16.5% | Est @ 16%, capped from 16.5% |
Present Value Discounted @ 13.64% | $750.31 | $807.56 | $827.92 | $848.79 | $866.43 |
Present Value of 5-year Cash Flow (PVCF)= US$4.10b
We now need to calculate the Terminal Value, which accounts for all the future cash flows after the five years. The Gordon Growth formula is used to calculate Terminal Value at an annual growth rate equal to the 10-year government bond rate of 2.9%. We discount this to today’s value at a cost of equity of 13.6%.
Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = US$1.64b × (1 + 2.9%) ÷ (13.6% – 2.9%) = US$15.81b
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US$15.81b ÷ ( 1 + 13.6%)5 = US$8.35b
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$12.45b. The last step is to then divide the equity value by the number of shares outstanding. If the stock is an depositary receipt (represents a specified number of shares in a foreign corporation) then we use the equivalent number. This results in an intrinsic value of $29.2. Compared to the current share price of $18.43, the stock is quite good value at a 36.9% discount to what it is available for right now.
The assumptions
I’d like to 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 my inputs, I recommend redoing the calculations yourself and playing with them. Because we are looking at ON Semiconductor as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 13.6%, which is based on a levered beta of 1.516. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.
Next Steps:
Although the valuation of a company is important, it shouldn’t be the only metric you look at when researching a company. What is the reason for the share price to differ from the intrinsic value? For ON, I’ve compiled three relevant factors you should further examine:
Financial Health: Does ON have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
Future Earnings: How does ON’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: Are there other high quality stocks you could be holding instead of ON? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!
PS. Simply Wall St does a DCF calculation for every US stock every 6 hours, so if you want to find the intrinsic value of any other stock just search here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
