Calculation of Intrinsic Value of Aditya Birla Fashion and Retail Limited (NSE:ABFRL)

Today we are going to walk through a way to estimate the intrinsic value of Aditya Birla Fashion and Retail Limited (NSE:ABFRL) by taking the expected future cash flows and discounting them to the present value. This will be done using the discounted cash flow (DCF) model. Believe it or not, it’s not too hard to follow, as you’ll see in our example!

We draw your attention to the fact that there are many ways to value a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. If you still have burning questions about this type of assessment, take a look at the Simply Wall St Analysis Template.

Check out our latest analysis for Aditya Birla Fashion and Retail

Is Aditya Birla Fashion and Retail correctly valued?

We use what is called a 2-stage 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. To start, we need to estimate the cash flows for 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.

Generally, we assume that a dollar today is worth more than a dollar in the future, 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 (₹, million) ₹7.54b ₹13.6 billion ₹17.0b ₹19.8 billion ₹22.5 billion ₹25.1 billion ₹27.6 billion ₹30.1 billion ₹32.6 billion ₹35.2 billion
Growth rate estimate Source Analyst x7 Analyst x7 Analyst x3 East @ 16.42% Is at 13.52% Is at 11.49% Is at 10.07% Is at 9.07% Is at 8.38% Is at 7.89%
Present value (₹, million) discounted at 14% ₹6,600 ₹10,500 ₹11,500 ₹11,800 ₹11,800 ₹11,500 ₹11,200 ₹10,700 ₹10,200 ₹9,600

(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = ₹105 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 6.8%. We discount terminal cash flows to present value at a cost of equity of 14%.

Terminal value (TV)= FCF2032 × (1 + g) ÷ (r – g) = ₹35b × (1 + 6.8%) ÷ (14%–6.8%) = ₹532b

Present value of terminal value (PVTV)= TV / (1 + r)ten= ₹532b÷ ( 1 + 14%)ten=₹146b

The total value, or equity value, is then the sum of the present value of future cash flows, which in this case is ₹251 billion. In the last step, we divide the equity value by the number of shares outstanding. Compared to the current share price of ₹255, the company appears to be roughly fair value at a 3.8% discount to the current share price. The assumptions of any calculation have a big impact on the valuation, so it’s best to consider this as a rough estimate, not accurate down to the last penny.

NSEI: ABFRL Discounted Cash Flow July 14, 2022

The hypotheses

Now, the most important inputs to a discounted cash flow are the discount rate and, of course, the actual cash flows. If you disagree with these results, try the math yourself and play around with the assumptions. The DCF also does not take into account the possible cyclicality of an industry or the future capital needs of a company, so it does not give a complete picture of a company’s potential performance. Since we consider Aditya Birla Fashion and Retail 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 takes debt into account . In this calculation, we used 14%, which is based on a leveraged beta of 1.099. 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.

Look forward:

While a business valuation is important, it shouldn’t be the only metric to consider when researching a business. The DCF model is not a perfect stock valuation tool. Instead, the best use of a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For example, if the terminal value growth rate is adjusted slightly, it can significantly change the overall result. For Aditya Birla Fashion and Retail, there are three fundamental elements that you should examine in more detail:

  1. Financial health: Does the ABFRL have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors such as leverage and risk.
  2. Future earnings: How does ABFRL’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.
  3. Other strong companies: Low debt, high returns on equity and good past performance are essential to a strong business. Why not explore our interactive list of stocks with strong trading fundamentals to see if there are any other companies you may not have considered!

PS. Simply Wall St updates its DCF calculation for every Indian stock daily, so if you want to find the intrinsic value of any other stock, just search here.

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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