M.T.I Wireless Edge Ltd. (LON:MWE) Shares Could Be 24% Above Their Intrinsic Value Estimate
Key Insights
Using the 2 Stage Free Cash Flow to Equity, M.T.I Wireless Edge fair value estimate is UK£0.42
Current share price of UK£0.52 suggests M.T.I Wireless Edge is potentially 24% overvalued
M.T.I Wireless Edge's peers seem to be trading at a higher premium to fair value based onthe industry average of -55%
Today we will run through one way of estimating the intrinsic value of M.T.I Wireless Edge Ltd. (LON:MWE) by estimating the company's future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. Believe it or not, it's not too difficult to follow, as you'll see from our example!
Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.
See our latest analysis for M.T.I Wireless Edge
Is M.T.I Wireless Edge 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. To begin with, we have to get estimates of 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.
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) estimate
2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | |
Levered FCF ($, Millions) | US$3.16m | US$3.22m | US$3.27m | US$3.32m | US$3.37m | US$3.41m | US$3.45m | US$3.49m | US$3.54m | US$3.58m |
Growth Rate Estimate Source | Est @ 2.06% | Est @ 1.78% | Est @ 1.59% | Est @ 1.46% | Est @ 1.37% | Est @ 1.30% | Est @ 1.26% | Est @ 1.22% | Est @ 1.20% | Est @ 1.19% |
Present Value ($, Millions) Discounted @ 8.3% | US$2.9 | US$2.7 | US$2.6 | US$2.4 | US$2.3 | US$2.1 | US$2.0 | US$1.8 | US$1.7 | US$1.6 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$22m
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 (1.2%) 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 8.3%.
Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US$3.6m× (1 + 1.2%) ÷ (8.3%– 1.2%) = US$51m
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$51m÷ ( 1 + 8.3%)10= US$23m
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$45m. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of UK£0.5, the company appears slightly overvalued at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.
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 M.T.I Wireless Edge 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 8.3%, which is based on a levered beta of 0.997. 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 M.T.I Wireless Edge
Strength
Debt is not viewed as a risk.
Dividends are covered by earnings and cash flows.
Weakness
Earnings declined over the past year.
Dividend is low compared to the top 25% of dividend payers in the Communications market.
Opportunity
Annual earnings are forecast to grow for the next .
Good value based on P/E ratio compared to estimated Fair P/E ratio.
Threat
No apparent threats visible for MWE.
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. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. What is the reason for the share price exceeding the intrinsic value? For M.T.I Wireless Edge, there are three fundamental elements you should consider:
Risks: Every company has them, and we've spotted 2 warning signs for M.T.I Wireless Edge you should know about.
Future Earnings: How does MWE'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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the AIM every day. If you want to find the calculation for other stocks just search here.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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