In this article I am going to calculate the intrinsic value of Teradata Corporation (NYSE:TDC) by estimating the company’s future cash flows and discounting them to their present value. I will use the Discounted Cash Flows (DCF) model. It may sound complicated, but actually it is quite simple! If you want to learn more about discounted cash flow, the basis for my calcs can be read in detail in the Simply Wall St analysis model. If you are reading this and its not November 2018 then I highly recommend you check out the latest calculation for Teradata by following the link below.
Is TDC fairly valued?
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
|Levered FCF ($, Millions)||$224.13||$265.79||$333.00||$410.00||$386.81|
|Source||Analyst x8||Analyst x7||Analyst x1||Analyst x1||Est @ -5.66%|
|Present Value Discounted @ 10.84%||$202.20||$216.32||$244.51||$271.60||$231.17|
Present Value of 5-year Cash Flow (PVCF)= US$1.2b
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. For a number of reasons a very conservative growth rate is used that cannot exceed that of the GDP. In this case I have used the 10-year government bond rate (2.9%). In the same way as with the 5-year ‘growth’ period, we discount this to today’s value at a cost of equity of 10.8%.
Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = US$387m × (1 + 2.9%) ÷ (10.8% – 2.9%) = US$5.0b
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US$5.0b ÷ ( 1 + 10.8%)5 = US$3.0b
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$4.2b. 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 $35.37. Relative to the current share price of $37.64, 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. 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 Teradata 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 10.8%, which is based on a levered beta of 1.12. 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.
Whilst important, DCF calculation shouldn’t be the only metric you look at when researching a company. For TDC, I’ve compiled three important factors you should further research:
- Financial Health: Does TDC 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 TDC’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 TDC? 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 firstname.lastname@example.org.