A Look At The Intrinsic Value Of Diodes Incorporated (NASDAQ:DIOD)
I am going to run you through how I calculated the intrinsic value of Diodes Incorporated (NASDAQ:DIOD) by taking the foreast future cash flows of the company and discounting them back to today’s value. I will use 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 June 2018 so be sure check out the updated calculation by following the link below. See our latest analysis for Diodes
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 five years. Where possible I use analyst estimates, but when these aren’t available I have extrapolated the previous free cash flow (FCF) from the year before. For this growth rate I used the average annual growth rate over the past five years, but capped at a reasonable level. The sum of these cash flows is then discounted to today’s value.
5-year cash flow estimate
2018 | 2019 | 2020 | 2021 | 2022 | |
Levered FCF ($, Millions) | $81.73 | $120.01 | $127.17 | $134.76 | $142.80 |
Source | Analyst x1 | Analyst x1 | Extrapolated @ (5.97%) | Extrapolated @ (5.97%) | Extrapolated @ (5.97%) |
Present Value Discounted @ 10.58% | $73.91 | $98.13 | $94.04 | $90.11 | $86.35 |
Present Value of 5-year Cash Flow (PVCF)= US$442.54m
After calculating the present value of future cash flows in the intial 5-year period we need to calculate the Terminal Value, which accounts for all the future cash flows beyond 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 10.6%.
Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = US$142.80m × (1 + 2.9%) ÷ (10.6% – 2.9%) = US$1.93b
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US$1.93b ÷ ( 1 + 10.6%)5 = US$1.16b
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$1.61b. The last step is to then divide the equity value by the number of shares outstanding. If the stock is an depositary receipt (represents a specified number of shares in a foreign corporation) then we use the equivalent number. This results in an intrinsic value of $32.41. Compared to the current share price of $36.55, the stock is fair value, maybe slightly overvalued at the time of writing.
The assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Diodes 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 10.6%, which is based on a levered beta of 1.083. 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:
Whilst important, DCF calculation shouldn’t be the only metric you look at when researching a company.
For DIOD, there are three essential aspects you should further examine:
Financial Health: Does DIOD 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.
Future Earnings: How does DIOD’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: Are there other high quality stocks you could be holding instead of DIOD? 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 pass 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.
