U.S. Markets open in 2 hrs 57 mins
  • S&P Futures

    4,563.75
    -12.00 (-0.26%)
     
  • Dow Futures

    34,542.00
    -80.00 (-0.23%)
     
  • Nasdaq Futures

    15,947.00
    -41.50 (-0.26%)
     
  • Russell 2000 Futures

    2,197.10
    -8.10 (-0.37%)
     
  • Crude Oil

    68.11
    +1.61 (+2.42%)
     
  • Gold

    1,773.20
    +10.50 (+0.60%)
     
  • Silver

    22.35
    +0.03 (+0.15%)
     
  • EUR/USD

    1.1310
    +0.0004 (+0.0339%)
     
  • 10-Yr Bond

    1.4480
    0.0000 (0.00%)
     
  • Vix

    28.26
    -2.86 (-9.19%)
     
  • GBP/USD

    1.3270
    -0.0032 (-0.2402%)
     
  • USD/JPY

    113.2650
    +0.0560 (+0.0495%)
     
  • BTC-USD

    57,037.88
    +534.14 (+0.95%)
     
  • CMC Crypto 200

    1,456.48
    +17.60 (+1.22%)
     
  • FTSE 100

    7,140.77
    +11.56 (+0.16%)
     
  • Nikkei 225

    28,029.57
    +276.20 (+1.00%)
     

Is International Paper Company (NYSE:IP) Worth US$59.9 Based On Its Intrinsic Value?

  • Oops!
    Something went wrong.
    Please try again later.
·5 min read
In this article:
  • Oops!
    Something went wrong.
    Please try again later.

Does the September share price for International Paper Company (NYSE:IP) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by estimating the company's future cash flows and discounting them to their present value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. It may sound complicated, but actually it is quite simple!

We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. 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 International Paper

Crunching the numbers

We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. In the first stage we need to estimate the cash flows to the business over the next ten years. 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, so we need to discount the sum of these future cash flows to arrive at a present value estimate:

10-year free cash flow (FCF) forecast

2022

2023

2024

2025

2026

2027

2028

2029

2030

2031

Levered FCF ($, Millions)

US$2.26b

US$1.93b

US$1.16b

US$1.17b

US$970.4m

US$861.7m

US$799.3m

US$763.6m

US$744.2m

US$735.5m

Growth Rate Estimate Source

Analyst x9

Analyst x5

Analyst x1

Analyst x1

Est @ -16.85%

Est @ -11.2%

Est @ -7.24%

Est @ -4.47%

Est @ -2.53%

Est @ -1.18%

Present Value ($, Millions) Discounted @ 6.4%

US$2.1k

US$1.7k

US$960

US$912

US$713

US$596

US$519

US$467

US$428

US$397

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$8.8b

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) = US$735m× (1 + 2.0%) ÷ (6.4%– 2.0%) = US$17b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$17b÷ ( 1 + 6.4%)10= US$9.3b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$18b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of US$59.9, the company appears slightly overvalued 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

Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 International Paper 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 0.924. 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.

Moving On:

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. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. Why is the intrinsic value lower than the current share price? For International Paper, we've compiled three fundamental elements you should look at:

  1. Risks: For example, we've discovered 1 warning sign for International Paper that you should be aware of before investing here.

  2. Future Earnings: How does IP'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 Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!

PS. Simply Wall St updates its DCF calculation for every American stock every day, so if you want to find the intrinsic value of any other stock just search here.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.