Are Investors Undervaluing Barry Callebaut AG (VTX:BARN) By 50%?

Key Insights

• The projected fair value for Barry Callebaut is CHF2,522 based on 2 Stage Free Cash Flow to Equity

• Barry Callebaut's CHF1,262 share price signals that it might be 50% undervalued

• The CHF1,793 analyst price target for BARN is 29% less than our estimate of fair value

In this article we are going to estimate the intrinsic value of Barry Callebaut AG (VTX:BARN) by taking the expected future cash flows and discounting them to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. There's really not all that much to it, even though it might appear quite complex.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. 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 Barry Callebaut

The Calculation

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.

Generally we assume that a dollar today is more valuable than a dollar in the future, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (CHF, Millions)	CHF51.3m	CHF53.2m	CHF349.0m	CHF525.0m	CHF570.0m	CHF585.1m	CHF596.0m	CHF604.0m	CHF609.7m	CHF614.0m
Growth Rate Estimate Source	Est @ 5.31%	Est @ 3.74%	Analyst x1	Analyst x1	Analyst x1	Est @ 2.64%	Est @ 1.87%	Est @ 1.33%	Est @ 0.96%	Est @ 0.69%
Present Value (CHF, Millions) Discounted @ 4.1%	CHF49.3	CHF49.1	CHF310	CHF447	CHF467	CHF460	CHF450	CHF439	CHF425	CHF412

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CHF3.5b

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 0.08%. We discount the terminal cash flows to today's value at a cost of equity of 4.1%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = CHF614m× (1 + 0.08%) ÷ (4.1%– 0.08%) = CHF15b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= CHF15b÷ ( 1 + 4.1%)¹⁰= CHF10b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CHF14b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of CHF1.3k, the company appears quite undervalued at a 50% discount to where the stock price trades currently. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.

SWX:BARN Discounted Cash Flow January 19th 2024

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. If you don't agree with these result, have a go at the calculation yourself and play with the 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 Barry Callebaut 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 4.1%, which is based on a levered beta of 0.800. 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 Barry Callebaut

Strength

• Earnings growth over the past year exceeded the industry.

• Debt is not viewed as a risk.

Weakness

• Dividend is low compared to the top 25% of dividend payers in the Food market.

Opportunity

• Annual earnings are forecast to grow faster than the Swiss market.

• Good value based on P/E ratio and estimated fair value.

Threat

• Dividends are not covered by cash flow.

• Annual revenue is forecast to grow slower than the Swiss market.

Looking Ahead:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize 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. Can we work out why the company is trading at a discount to intrinsic value? For Barry Callebaut, there are three additional elements you should consider:

1. Risks: Be aware that Barry Callebaut is showing 1 warning sign in our investment analysis , you should know about...

2. Future Earnings: How does BARN'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 Swiss 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.