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# Investors Are Undervaluing Teva Pharmaceutical Industries Limited (NYSE:TEVA) By 29.49%

Does the share price for Teva Pharmaceutical Industries Limited (NYSE:TEVA) reflect it’s really worth? Today, I will calculate the stock’s intrinsic value by taking the expected future cash flows and discounting them to their present value. I will be using the Discounted Cash Flows (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model. Please also note that this article was written in September 2018 so be sure check out the updated calculation by following the link below.

### Is TEVA fairly valued?

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 five years. For this I used the consensus of the analysts covering the stock, as you can see below. The sum of these cash flows is then discounted to today’s value.

#### 5-year cash flow forecast

 2019 2020 2021 2022 2023 Levered FCF (\$, Millions) \$3.75k \$4.00k \$3.69k \$3.74k \$3.83k Source Analyst x3 Analyst x2 Analyst x1 Analyst x1 Est @ 2.45% Present Value Discounted @ 13.99% \$3.29k \$3.08k \$2.49k \$2.21k \$1.99k

Present Value of 5-year Cash Flow (PVCF)= US\$13.06b

The second stage is also known as Terminal Value, this is the business’s cash flow after the first stage. The Gordon Growth formula is used to calculate Terminal Value at an annual growth rate equal to the 10-year government bond rate of 2.9%. We discount this to today’s value at a cost of equity of 14%.

Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = US\$3.83b × (1 + 2.9%) ÷ (14% – 2.9%) = US\$35.68b

Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US\$35.68b ÷ ( 1 + 14%)5 = US\$18.54b

The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US\$31.60b. To get the intrinsic value per share, we divide this by the total number of shares outstanding, or the equivalent number if this is a depositary receipt or ADR. This results in an intrinsic value of \$31.03. Relative to the current share price of \$21.88, the stock is about right, perhaps slightly undervalued at a 29.5% discount to what it is available for right now.

### 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 my inputs, I recommend redoing the calculations yourself and playing with them. Because we are looking at Teva Pharmaceutical Industries as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 14%, which is based on a levered beta of 1.566. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.

### Next Steps:

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. What is the reason for the share price to differ from the intrinsic value? For TEVA, I’ve put together three essential factors you should look at:

1. Financial Health: Does TEVA 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.
2. Future Earnings: How does TEVA’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: Are there other high quality stocks you could be holding instead of TEVA? 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 does a DCF calculation for every US stock every 6 hours, so if you want to find the intrinsic value of any other stock just search here.

To help readers see past 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. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.