Estimating The Fair Value Of Alexion Pharmaceuticals, Inc. (NASDAQ:ALXN)
Today I will be providing a simple run through of a valuation method used to estimate the attractiveness of Alexion Pharmaceuticals, Inc. (NASDAQ:ALXN) as an investment opportunity by taking the foreast future cash flows of the company and discounting them back to today’s value. I will be 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. Please also note that this article was written in January 2019 so be sure check out the updated calculation by following the link below.
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What’s the value?
I use what is known as a 2-stage model, which simply means we have two different periods of varying growth rates for the company’s cash flows. Generally the first stage is higher growth, and the second stage is a more stable growth phase. To start off with we need to estimate the next five years of cash flows. For this I used the consensus of the analysts covering the stock, as you can see below. The sum of these cash flows is then discounted to today’s value.
5-year cash flow forecast
2019 | 2020 | 2021 | 2022 | 2023 | |
Levered FCF ($, Millions) | $1.62k | $2.14k | $2.33k | $2.62k | $2.92k |
Source | Analyst x5 | Analyst x3 | Analyst x1 | Analyst x1 | Analyst x1 |
Present Value Discounted @ 13.41% | $1.43k | $1.67k | $1.60k | $1.58k | $1.56k |
Present Value of 5-year Cash Flow (PVCF)= US$7.8b
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 an annual growth rate equal to the 10-year government bond rate of 2.9%. We discount this to today’s value at a cost of equity of 13.4%.
Terminal Value (TV) = FCF2023 × (1 + g) ÷ (r – g) = US$2.9b × (1 + 2.9%) ÷ (13.4% – 2.9%) = US$29b
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US$29b ÷ ( 1 + 13.4%)5 = US$15b
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$23b. The last step is to then divide the equity value by the number of shares outstanding. If the stock is an depositary receipt (represents a specified number of shares in a foreign corporation) then we use the equivalent number. This results in an intrinsic value of $103.82. Relative to the current share price of $110.93, the stock is fair value, maybe slightly overvalued at the time of writing.
The assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. If you don’t agree with my result, have a go at the calculation yourself and play with the assumptions. Because we are looking at Alexion Pharmaceuticals 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 13.4%, which is based on a levered beta of 1.483. 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.
Next Steps:
Whilst important, DCF calculation shouldn’t be the only metric you look at when researching a company. For ALXN, there are three relevant factors you should further examine:
Financial Health: Does ALXN 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 ALXN’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 ALXN? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!
PS. Simply Wall St does a DCF calculation for every US stock every 6 hours, so if you want to find the intrinsic value of any other stock 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 editorial-team@simplywallst.com.
