A Look At The Fair Value Of Vonovia SE (ETR:VNA)

editorial-team@simplywallst.com (Simply Wall St)

Fri, Aug 23, 2024, 6:58 AM 6 min read

In this article we are going to estimate the intrinsic value of Vonovia SE (ETR:VNA) by taking the forecast future cash flows of the company and discounting them back to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

View our latest analysis for Vonovia

The Method

We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. 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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2025	2026	2027	2028	2029	2030	2031	2032	2033	2034
Levered FCF (€, Millions)	€2.03b	€2.22b	€2.30b	€2.37b	€2.43b	€2.47b	€2.51b	€2.54b	€2.57b	€2.60b
Growth Rate Estimate Source	Analyst x3	Analyst x2	Est @ 3.85%	Est @ 2.94%	Est @ 2.30%	Est @ 1.85%	Est @ 1.54%	Est @ 1.32%	Est @ 1.17%	Est @ 1.06%
Present Value (€, Millions) Discounted @ 9.0%	€1.9k	€1.9k	€1.8k	€1.7k	€1.6k	€1.5k	€1.4k	€1.3k	€1.2k	€1.1k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €15b

After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond 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 (0.8%) 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 9.0%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = €2.6b× (1 + 0.8%) ÷ (9.0%– 0.8%) = €32b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= €32b÷ ( 1 + 9.0%)¹⁰= €13b

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is €28b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of €30.0, the company appears about fair value at a 13% 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.

dcf — XTRA:VNA Discounted Cash Flow August 23rd 2024

Important Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Vonovia 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 9.0%, which is based on a levered beta of 2.000. 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.

SWOT Analysis for Vonovia

Strength

Debt is well covered by earnings.

Weakness

Dividend is low compared to the top 25% of dividend payers in the Real Estate market.

Opportunity

Expected to breakeven next year.

Has sufficient cash runway for more than 3 years based on current free cash flows.

Current share price is below our estimate of fair value.

Threat

Debt is not well covered by operating cash flow.

Paying a dividend but company is unprofitable.

Revenue is forecast to decrease over the next 2 years.

Looking Ahead:

Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Vonovia, we've compiled three further elements you should look at:

Risks: Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with Vonovia (at least 1 which is potentially serious) , and understanding them should be part of your investment process.
Future Earnings: How does VNA'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 XTRA every day. If you want to find the calculation for other stocks just search here.

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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.