A Look At The Intrinsic Value Of Living Technologies Inc. (TSE:4445)

Key Insights

• The projected fair value for Living Technologies is JP¥3,367 based on 2 Stage Free Cash Flow to Equity
• Living Technologies' JP¥3,275 share price indicates it is trading at similar levels as its fair value estimate
• Living Technologies' peers are currently trading at a premium of 28% on average

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Living Technologies Inc. (TSE:4445) as an investment opportunity by taking the expected future cash flows and discounting them to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. 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. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

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What's The Estimated Valuation?

We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To start off with, we need to estimate the next ten years of cash flows. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last 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.

Generally we assume that a dollar today is more valuable than a dollar in the future, so we discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) estimate

	2026	2027	2028	2029	2030	2031	2032	2033	2034	2035
Levered FCF (¥, Millions)	JP¥263.1m	JP¥273.1m	JP¥281.0m	JP¥287.1m	JP¥292.0m	JP¥296.0m	JP¥299.4m	JP¥302.4m	JP¥305.0m	JP¥307.4m
Growth Rate Estimate Source	Est @ 5.22%	Est @ 3.83%	Est @ 2.86%	Est @ 2.19%	Est @ 1.71%	Est @ 1.38%	Est @ 1.14%	Est @ 0.98%	Est @ 0.87%	Est @ 0.79%
Present Value (¥, Millions) Discounted @ 6.9%	JP¥246	JP¥239	JP¥230	JP¥220	JP¥209	JP¥198	JP¥187	JP¥177	JP¥167	JP¥157

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = JP¥2.0b

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 (0.6%) 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 6.9%.

Terminal Value (TV)= FCF₂₀₃₅ × (1 + g) ÷ (r – g) = JP¥307m× (1 + 0.6%) ÷ (6.9%– 0.6%) = JP¥4.9b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= JP¥4.9b÷ ( 1 + 6.9%)¹⁰= JP¥2.5b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is JP¥4.5b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of JP¥3.3k, the company appears about fair value at a 2.7% 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.

The Assumptions

We would point out that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. If you don't agree with these result, have a go at the calculation yourself and play with the 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 Living Technologies 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 6.9%, which is based on a levered beta of 1.207. 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.

View our latest analysis for Living Technologies

Moving On:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. DCF models are not the be-all and end-all of investment valuation. 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 Living Technologies, we've compiled three additional items you should further examine:

1. Risks: For instance, we've identified 2 warning signs for Living Technologies that you should be aware of.
2. 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!
3. Other Environmentally-Friendly Companies: Concerned about the environment and think consumers will buy eco-friendly products more and more? Browse through our interactive list of companies that are thinking about a greener future to discover some stocks you may not have thought of!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the TSE 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.