Calculating The Fair Value Of Alarum Technologies Ltd. (TLV:ALAR)

Key Insights

• Alarum Technologies' estimated fair value is ₪3.39 based on 2 Stage Free Cash Flow to Equity
• With ₪3.21 share price, Alarum Technologies appears to be trading close to its estimated fair value
• Industry average discount to fair value of 25% suggests Alarum Technologies' peers are currently trading at a higher discount

Today we will run through one way of estimating the intrinsic value of Alarum Technologies Ltd. (TLV:ALAR) by taking the expected future cash flows and discounting them to today's value. Our analysis will employ 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.

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.

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Is Alarum Technologies Fairly Valued?

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. In the first stage we need to estimate the cash flows to the business over the next ten years. 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.

Generally we assume that a dollar today is more valuable than a dollar in the future, so we need to discount the sum of these future cash flows to arrive at a present value estimate:

10-year free cash flow (FCF) estimate

	2026	2027	2028	2029	2030	2031	2032	2033	2034	2035
Levered FCF ($, Millions)	US$5.20m	US$5.57m	US$5.91m	US$6.21m	US$6.49m	US$6.76m	US$7.02m	US$7.28m	US$7.53m	US$7.79m
Growth Rate Estimate Source	Analyst x1	Est @ 7.20%	Est @ 5.99%	Est @ 5.14%	Est @ 4.54%	Est @ 4.13%	Est @ 3.84%	Est @ 3.63%	Est @ 3.49%	Est @ 3.39%
Present Value ($, Millions) Discounted @ 11%	US$4.7	US$4.6	US$4.4	US$4.1	US$3.9	US$3.7	US$3.5	US$3.2	US$3.0	US$2.8

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$38m

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. 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 3.2%. We discount the terminal cash flows to today's value at a cost of equity of 11%.

Terminal Value (TV)= FCF₂₀₃₅ × (1 + g) ÷ (r – g) = US$7.8m× (1 + 3.2%) ÷ (11%– 3.2%) = US$107m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= US$107m÷ ( 1 + 11%)¹⁰= US$39m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$77m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of ₪3.2, the company appears about fair value at a 5.3% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

Important 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 Alarum 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 11%, which is based on a levered beta of 1.145. 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.

Check out our latest analysis for Alarum Technologies

SWOT Analysis for Alarum Technologies

Looking Ahead:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize 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. For Alarum Technologies, we've compiled three pertinent aspects you should further examine:

1. Risks: We feel that you should assess the 3 warning signs for Alarum Technologies (1 doesn't sit too well with us!) we've flagged before making an investment in the company.
2. Future Earnings: How does ALAR'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.
3. 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 TASE 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.