Calculating The Intrinsic Value Of Innoviva, Inc. (NASDAQ:INVA)
Key Insights
Using the 2 Stage Free Cash Flow to Equity, Innoviva fair value estimate is US$11.69
Innoviva's US$13.37 share price indicates it is trading at similar levels as its fair value estimate
The average discount for Innoviva's competitorsis currently 30%
Does the October share price for Innoviva, Inc. (NASDAQ:INVA) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by estimating the company's future cash flows and discounting them to their present value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. It may sound complicated, but actually it is quite simple!
We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
See our latest analysis for Innoviva
The Calculation
We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. In the first stage we need to estimate the cash flows to the business over the next ten years. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we need to discount the sum of these future cash flows to arrive at a present value estimate:
10-year free cash flow (FCF) estimate
2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | |
Levered FCF ($, Millions) | US$60.7m | US$47.8m | US$41.0m | US$37.2m | US$35.0m | US$33.8m | US$33.2m | US$33.0m | US$33.0m | US$33.3m |
Growth Rate Estimate Source | Est @ -31.32% | Est @ -21.28% | Est @ -14.25% | Est @ -9.33% | Est @ -5.89% | Est @ -3.48% | Est @ -1.79% | Est @ -0.61% | Est @ 0.22% | Est @ 0.80% |
Present Value ($, Millions) Discounted @ 6.2% | US$57.2 | US$42.4 | US$34.3 | US$29.3 | US$26.0 | US$23.6 | US$21.8 | US$20.4 | US$19.3 | US$18.3 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$293m
The second stage is also known as Terminal Value, this is the business's cash flow after 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 2.2%. We discount the terminal cash flows to today's value at a cost of equity of 6.2%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$33m× (1 + 2.2%) ÷ (6.2%– 2.2%) = US$850m
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$850m÷ ( 1 + 6.2%)10= US$468m
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$761m. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of US$13.4, the company appears around fair value at the time of writing. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.
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. 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 Innoviva 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 6.2%, which is based on a levered beta of 0.800. 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 Innoviva
Strength
Earnings growth over the past year exceeded the industry.
Debt is well covered by earnings.
Weakness
Current share price is above our estimate of fair value.
Opportunity
Annual revenue is forecast to grow faster than the American market.
Threat
Debt is not well covered by operating cash flow.
Next Steps:
Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Innoviva, we've put together three further aspects you should consider:
Risks: Consider for instance, the ever-present spectre of investment risk. We've identified 3 warning signs with Innoviva (at least 2 which don't sit too well with us) , and understanding these should be part of your investment process.
Future Earnings: How does INVA'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 Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!
PS. Simply Wall St updates its DCF calculation for every American stock every day, so if you want to find the intrinsic value of any other stock just search here.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
