Does the January share price for NETGEAR, Inc. (NASDAQ:NTGR) reflect it’s really worth? Today, I will calculate the stock’s intrinsic value by estimating the company’s future cash flows and discounting them to their present value. This is done using the discounted cash flows (DCF) model. It may sound complicated, but actually it is quite simple! Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model. If you are reading this and its not January 2019 then I highly recommend you check out the latest calculation for NETGEAR by following the link below.
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We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second ‘steady growth’ period. In the first stage we need to estimate the cash flows to the business over the next five years. The sum of these cash flows is then discounted to today’s value.
5-year cash flow estimate
|Levered FCF ($, Millions)||$87.11||$87.91||$88.71||$89.53||$90.35|
|Source||Est @ 0.92%||Est @ 0.92%||Est @ 0.92%||Est @ 0.92%||Est @ 0.92%|
|Present Value Discounted @ 10.23%||$79.02||$72.35||$66.24||$60.64||$55.52|
Present Value of 5-year Cash Flow (PVCF)= US$334m
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 2.7%. We discount this to today’s value at a cost of equity of 10.2%.
Terminal Value (TV) = FCF2023 × (1 + g) ÷ (r – g) = US$90m × (1 + 2.7%) ÷ (10.2% – 2.7%) = US$1.2b
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US$1.2b ÷ ( 1 + 10.2%)5 = US$760m
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$1.1b. 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 $34.67. Relative to the current share price of $38.47, the stock is fair value, maybe slightly overvalued and not available at a discount at this time.
I’d like to point out that 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 NETGEAR 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 10.2%, which is based on a levered beta of 1.032. 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.
Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn’t be the only metric you look at when researching a company. For NTGR, I’ve put together three key aspects you should look at:
- Financial Health: Does NTGR have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
- Future Earnings: How does NTGR’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: Are there other high quality stocks you could be holding instead of NTGR? 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 for every stock on the NASDAQ every 6 hours. If you want to find the calculation for other stocks just search here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.