Are Investors Undervaluing Accel Entertainment, Inc. (NYSE:ACEL) By 23%?
Key Insights
Accel Entertainment's estimated fair value is US$14.76 based on 2 Stage Free Cash Flow to Equity
Accel Entertainment's US$11.42 share price signals that it might be 23% undervalued
Our fair value estimate is 5.4% higher than Accel Entertainment's analyst price target of US$14.00
Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Accel Entertainment, Inc. (NYSE:ACEL) as an investment opportunity by taking the forecast future cash flows of the company and discounting them back to today's value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. There's really not all that much to it, even though it might appear quite complex.
We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
View our latest analysis for Accel Entertainment
The Calculation
We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. To start off with, we need to estimate the next ten years of cash flows. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we discount the value of these future cash flows to their estimated value in today's dollars:
10-year free cash flow (FCF) estimate
2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | |
Levered FCF ($, Millions) | US$78.3m | US$87.9m | US$96.0m | US$102.8m | US$108.6m | US$113.5m | US$117.8m | US$121.7m | US$125.3m | US$128.7m |
Growth Rate Estimate Source | Est @ 16.63% | Est @ 12.28% | Est @ 9.23% | Est @ 7.09% | Est @ 5.60% | Est @ 4.55% | Est @ 3.82% | Est @ 3.31% | Est @ 2.95% | Est @ 2.70% |
Present Value ($, Millions) Discounted @ 10% | US$71.1 | US$72.5 | US$71.9 | US$70.0 | US$67.1 | US$63.7 | US$60.1 | US$56.4 | US$52.7 | US$49.2 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$635m
We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 10%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$129m× (1 + 2.1%) ÷ (10%– 2.1%) = US$1.6b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$1.6b÷ ( 1 + 10%)10= US$629m
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$1.3b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of US$11.4, the company appears a touch undervalued at a 23% discount to where the stock price trades currently. 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.
The Assumptions
We would point out that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 Accel Entertainment 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 10%, which is based on a levered beta of 1.344. 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.
SWOT Analysis for Accel Entertainment
Strength
Debt is well covered by earnings and cashflows.
Weakness
Earnings declined over the past year.
Opportunity
Annual earnings are forecast to grow for the next 2 years.
Trading below our estimate of fair value by more than 20%.
Threat
Annual earnings are forecast to grow slower than the American market.
Moving On:
Valuation is only one side of the coin in terms of building your investment thesis, and it is only one of many factors that you need to assess for a company. It's not possible to obtain a foolproof valuation with a DCF model. 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 example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. What is the reason for the share price sitting below the intrinsic value? For Accel Entertainment, there are three essential aspects you should further research:
Risks: For instance, we've identified 2 warning signs for Accel Entertainment that you should be aware of.
Future Earnings: How does ACEL'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: 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!
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.
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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.
