In this article I am going to calculate the intrinsic value of Trade Me Group Limited (NZSE:TME) by taking the expected future cash flows and discounting them to today’s value. I will use the discounted cash flows (DCF) model. It may sound complicated, but actually it is quite simple! 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. Please also note that this article was written in September 2018 so be sure check out the updated calculation by following the link below.
See our latest analysis for Trade Me Group
The model
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. To start off with we need to estimate the next five years of cash flows. For this I used the consensus of the analysts covering the stock, as you can see below. The sum of these cash flows is then discounted to today’s value.
5-year cash flow forecast
| 2019 | 2020 | 2021 | 2022 | 2023 | |
| Levered FCF (NZ$, Millions) | NZ$103.00 | NZ$110.00 | NZ$112.00 | NZ$121.57 | NZ$131.95 |
| Source | Analyst x2 | Analyst x2 | Analyst x1 | Est @ 8.54% | Est @ 8.54% |
| Present Value Discounted @ 12.26% | NZ$91.75 | NZ$87.29 | NZ$79.17 | NZ$76.55 | NZ$74.01 |
Present Value of 5-year Cash Flow (PVCF)= NZ$408.8m
After calculating the present value of future cash flows in the intial 5-year period we need to calculate the Terminal Value, which accounts for all the future cash flows beyond the first stage. The Gordon Growth formula is used to calculate Terminal Value at an annual growth rate equal to the 10-year government bond rate of 5%. We discount this to today’s value at a cost of equity of 12.3%.
Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = NZ$131.9m × (1 + 5%) ÷ (12.3% – 5%) = NZ$1.92b
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = NZ$1.92b ÷ ( 1 + 12.3%)5 = NZ$1.08b
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is NZ$1.49b. To get the intrinsic value per share, we divide this by the total number of shares outstanding, or the equivalent number if this is a depositary receipt or ADR. This results in an intrinsic value of NZ$3.74. Relative to the current share price of NZ$4.93, the stock is rather overvalued and not available at a discount at this time.
Important assumptions
Now 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 Trade Me Group 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 12.3%, which is based on a levered beta of 1.456. 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.