Calculating The Intrinsic Value Of Tidewater Midstream and Infrastructure Ltd. (TSE:TWM)

Key Insights

• Tidewater Midstream and Infrastructure's estimated fair value is CA$0.79 based on 2 Stage Free Cash Flow to Equity

• Tidewater Midstream and Infrastructure's CA$0.86 share price indicates it is trading at similar levels as its fair value estimate

• Analyst price target for TWM is CA$1.32, which is 66% above our fair value estimate

Today we will run through one way of estimating the intrinsic value of Tidewater Midstream and Infrastructure Ltd. (TSE:TWM) by taking the forecast future cash flows of the company and discounting them back 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!

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.

View our latest analysis for Tidewater Midstream and Infrastructure

Crunching The Numbers

We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. To begin with, we have to get estimates of the next ten years of cash flows. 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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2023	2024	2025	2026	2027	2028	2029	2030	2031	2032
Levered FCF (CA$, Millions)	CA$12.4m	CA$134.3m	CA$78.0m	CA$51.8m	CA$39.9m	CA$33.7m	CA$30.2m	CA$28.2m	CA$27.0m	CA$26.3m
Growth Rate Estimate Source	Analyst x4	Analyst x5	Analyst x1	Est @ -33.63%	Est @ -23.00%	Est @ -15.56%	Est @ -10.35%	Est @ -6.71%	Est @ -4.15%	Est @ -2.37%
Present Value (CA$, Millions) Discounted @ 14%	CA$10.9	CA$104	CA$53.1	CA$31.0	CA$21.0	CA$15.6	CA$12.3	CA$10.1	CA$8.5	CA$7.3

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CA$274m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 (1.8%) 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 14%.

Terminal Value (TV)= FCF₂₀₃₂ × (1 + g) ÷ (r – g) = CA$26m× (1 + 1.8%) ÷ (14%– 1.8%) = CA$226m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= CA$226m÷ ( 1 + 14%)¹⁰= CA$63m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CA$336m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of CA$0.9, the company appears around fair value at the time of writing. 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.

dcf

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. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 Tidewater Midstream and Infrastructure 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 14%, which is based on a levered beta of 2.000. 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 Tidewater Midstream and Infrastructure

Strength

• Debt is well covered by cash flow.

Weakness

• Interest payments on debt are not well covered.

• Dividend is low compared to the top 25% of dividend payers in the Oil and Gas market.

• Shareholders have been diluted in the past year.

Opportunity

• Expected to breakeven next year.

• Has sufficient cash runway for more than 3 years based on current free cash flows.

• Good value based on P/S ratio compared to estimated Fair P/S ratio.

Threat

• Paying a dividend but company is unprofitable.

Next Steps:

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. 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 Tidewater Midstream and Infrastructure, we've compiled three further factors you should further research:

1. Risks: For instance, we've identified 3 warning signs for Tidewater Midstream and Infrastructure (2 don't sit too well with us) you should be aware of.

2. Future Earnings: How does TWM'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 TSX every day. If you want to find the calculation for other stocks 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.

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