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Estimating The Fair Value Of Millennium & Copthorne Hotels New Zealand Limited (NZSE:MCK)

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·5 min read
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Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Millennium & Copthorne Hotels New Zealand Limited (NZSE:MCK) as an investment opportunity by taking the expected future cash flows and discounting them to their present value. This will be done using the Discounted Cash Flow (DCF) model. Believe it or not, it's not too difficult to follow, as you'll see from our example!

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. 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 Millennium & Copthorne Hotels New Zealand

What's the estimated valuation?

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.

Generally we assume that a dollar today is more valuable than a dollar in the future, so we discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) forecast

2022

2023

2024

2025

2026

2027

2028

2029

2030

2031

Levered FCF (NZ$, Millions)

NZ$19.2m

NZ$16.5m

NZ$15.0m

NZ$14.2m

NZ$13.7m

NZ$13.4m

NZ$13.4m

NZ$13.4m

NZ$13.5m

NZ$13.6m

Growth Rate Estimate Source

Est @ -20.57%

Est @ -13.79%

Est @ -9.04%

Est @ -5.72%

Est @ -3.39%

Est @ -1.76%

Est @ -0.62%

Est @ 0.18%

Est @ 0.74%

Est @ 1.13%

Present Value (NZ$, Millions) Discounted @ 6.4%

NZ$18.0

NZ$14.6

NZ$12.5

NZ$11.1

NZ$10.1

NZ$9.3

NZ$8.7

NZ$8.2

NZ$7.7

NZ$7.4

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = NZ$107m

The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. 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 (2.0%) 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 6.4%.

Terminal Value (TV)= FCF2031 × (1 + g) ÷ (r – g) = NZ$14m× (1 + 2.0%) ÷ (6.4%– 2.0%) = NZ$322m

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= NZ$322m÷ ( 1 + 6.4%)10= NZ$174m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is NZ$281m. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of NZ$2.1, 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
dcf

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 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 Millennium & Copthorne Hotels New Zealand 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 6.4%, which is based on a levered beta of 1.019. 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.

Next Steps:

Whilst important, the DCF calculation shouldn't be the only metric you look at when researching a company. It's not possible to obtain a foolproof valuation with a DCF model. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Millennium & Copthorne Hotels New Zealand, we've compiled three fundamental items you should look at:

  1. Risks: For example, we've discovered 1 warning sign for Millennium & Copthorne Hotels New Zealand that you should be aware of before investing here.

  2. 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!

  3. Other Environmentally-Friendly Companies: Concerned about the environment and think consumers will buy eco-friendly products more and more? Browse through our interactive list of companies that are thinking about a greener future to discover some stocks you may not have thought of!

PS. Simply Wall St updates its DCF calculation for every New Zealander 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.