Is There An Opportunity With Big River Industries Limited's (ASX:BRI) 23% Undervaluation?

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

Tue, Dec 10, 2024, 4:19 PM 6 min read

In this article we are going to estimate the intrinsic value of Big River Industries Limited (ASX:BRI) by projecting its future cash flows and then discounting them to today's value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. Believe it or not, it's not too difficult to follow, as you'll see from our example!

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

View our latest analysis for Big River Industries

Crunching The Numbers

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 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, 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 (A$, Millions)	AU$29.9m	AU$25.4m	AU$17.1m	AU$12.9m	AU$10.8m	AU$9.67m	AU$9.02m	AU$8.67m	AU$8.50m	AU$8.45m
Growth Rate Estimate Source	Analyst x1	Analyst x1	Analyst x1	Est @ -24.39%	Est @ -16.30%	Est @ -10.64%	Est @ -6.67%	Est @ -3.90%	Est @ -1.95%	Est @ -0.59%
Present Value (A$, Millions) Discounted @ 10%	AU$27.2	AU$20.9	AU$12.8	AU$8.8	AU$6.7	AU$5.4	AU$4.6	AU$4.0	AU$3.6	AU$3.2

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AU$97m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 2.6%. We discount the terminal cash flows to today's value at a cost of equity of 10%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = AU$8.5m× (1 + 2.6%) ÷ (10%– 2.6%) = AU$115m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= AU$115m÷ ( 1 + 10%)¹⁰= AU$44m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is AU$141m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of AU$1.3, the company appears a touch undervalued at a 23% discount to where the stock price trades currently. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.

dcf — ASX:BRI Discounted Cash Flow December 10th 2024

The Assumptions

Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 Big River Industries 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 10%, which is based on a levered beta of 1.830. 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 Big River Industries

Strength

Debt is not viewed as a risk.

Dividends are covered by earnings and cash flows.

Weakness

Earnings declined over the past year.

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

Shareholders have been diluted in the past year.

Opportunity

Annual earnings are forecast to grow faster than the Australian market.

Good value based on P/E ratio and estimated fair value.

Threat

No apparent threats visible for BRI.

Looking Ahead:

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. If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. Why is the intrinsic value higher than the current share price? For Big River Industries, there are three fundamental elements you should assess:

Risks: For example, we've discovered 4 warning signs for Big River Industries that you should be aware of before investing here.
Future Earnings: How does BRI'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 ASX 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.