U.S. markets open in 2 hours 46 minutes
  • S&P Futures

    4,250.75
    -35.75 (-0.83%)
     
  • Dow Futures

    33,756.00
    -225.00 (-0.66%)
     
  • Nasdaq Futures

    13,395.25
    -128.00 (-0.95%)
     
  • Russell 2000 Futures

    1,980.80
    -20.90 (-1.04%)
     
  • Crude Oil

    88.91
    -1.59 (-1.76%)
     
  • Gold

    1,764.60
    -6.60 (-0.37%)
     
  • Silver

    19.14
    -0.33 (-1.69%)
     
  • EUR/USD

    1.0062
    -0.0029 (-0.29%)
     
  • 10-Yr Bond

    2.8800
    0.0000 (0.00%)
     
  • Vix

    20.57
    +0.67 (+3.37%)
     
  • GBP/USD

    1.1848
    -0.0084 (-0.71%)
     
  • USD/JPY

    136.7270
    +0.8650 (+0.64%)
     
  • BTC-USD

    21,722.09
    -1,792.17 (-7.62%)
     
  • CMC Crypto 200

    516.68
    -41.05 (-7.36%)
     
  • FTSE 100

    7,547.98
    +6.13 (+0.08%)
     
  • Nikkei 225

    28,930.33
    -11.81 (-0.04%)
     

Are Investors Undervaluing Axalta Coating Systems Ltd. (NYSE:AXTA) By 42%?

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

Does the June share price for Axalta Coating Systems Ltd. (NYSE:AXTA) 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. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

See our latest analysis for Axalta Coating Systems

What's the estimated valuation?

We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. To begin with, we have to get estimates of the next ten years of cash flows. 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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

2021

2022

2023

2024

2025

2026

2027

2028

2029

2030

Levered FCF ($, Millions)

US$441.3m

US$561.0m

US$623.4m

US$699.5m

US$755.4m

US$802.2m

US$841.7m

US$875.8m

US$905.8m

US$933.0m

Growth Rate Estimate Source

Analyst x7

Analyst x8

Analyst x5

Analyst x2

Est @ 7.99%

Est @ 6.19%

Est @ 4.93%

Est @ 4.05%

Est @ 3.43%

Est @ 3%

Present Value ($, Millions) Discounted @ 7.8%

US$409

US$482

US$497

US$517

US$518

US$510

US$496

US$479

US$459

US$438

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$4.8b

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 7.8%.

Terminal Value (TV)= FCF2030 × (1 + g) ÷ (r – g) = US$933m× (1 + 2.0%) ÷ (7.8%– 2.0%) = US$16b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$16b÷ ( 1 + 7.8%)10= US$7.6b

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is US$12b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of US$30.9, the company appears quite undervalued at a 42% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

dcf
dcf

Important assumptions

Now 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 Axalta Coating Systems 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 7.8%, which is based on a levered beta of 1.241. 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.

Looking Ahead:

Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. What is the reason for the share price sitting below the intrinsic value? For Axalta Coating Systems, there are three important elements you should assess:

  1. Risks: Consider for instance, the ever-present spectre of investment risk. We've identified 3 warning signs with Axalta Coating Systems (at least 1 which makes us a bit uncomfortable) , and understanding these should be part of your investment process.

  2. Future Earnings: How does AXTA'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 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.

This article by Simply Wall St is general in nature. 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.