Today I will be providing a simple run-through of the discounted cash flows (DCF) method to estimate the attractiveness of Tenneco Inc (NYSE:TEN) as an investment opportunity. If you want to learn more about this method, the basis for my calculations can be found in detail in the Simply Wall St analysis model. Also note that this article was written in June 2018 so be sure check the latest calculation for Tenneco here.
Crunching the numbers
I’ve used 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 perpetual stable growth rate. To start off, I took the analyst consensus forecast of TEN’s levered free cash flow (FCF) over the next five years and discounted these figures at the cost of equity of 12.76%. When estimates weren’t available, I’ve extrapolated the average annual growth rate over the previous five years, capped at a reasonable level. This resulted in a present value of 5-year cash flow of US$800.15M. Want to know how I arrived at this number? Read our detailed analysis here.
In the visual above, we see how how TEN’s top and bottom lines are expected to move in the future, which should give you some color on TEN’s outlook. Next, I determine the terminal value, which accounts for all the future cash flows after the five years. I think it’s suitable to use the 10-year government bond rate of 2.8% as the stable growth rate, which is rightly below GDP growth, but more towards the conservative side. The present value of the terminal value after discounting it back five years is US$1.54B.
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$2.34B. To get the intrinsic value per share, we divide this by the total number of shares outstanding. This results in an intrinsic value of $45.47, which, compared to the current share price of $46.57, we find that Tenneco is fair value, maybe slightly overvalued at the time of writing.
Although the valuation of a company is important, it shouldn’t be the only metric you look at when researching a company.
For TEN, there are three relevant factors you should further research:
- Financial Health: Does TEN 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 TEN’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 TEN? 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 for every stock on the NYSE every 6 hours. If you want to find the calculation for other stocks just search here.
To help readers see pass 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.