Mayne Pharma Group Limited (ASX:MYX) Shares Could Be 49% Below Their Intrinsic Value Estimate

Key Insights

• Mayne Pharma Group's estimated fair value is AU$7.77 based on 2 Stage Free Cash Flow to Equity

• Mayne Pharma Group is estimated to be 49% undervalued based on current share price of AU$3.94

• Our fair value estimate is 35% lower than Mayne Pharma Group's analyst price target of AU$5.06

Does the March share price for Mayne Pharma Group Limited (ASX:MYX) reflect what it's really worth? Today, we will estimate the stock's intrinsic value 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. 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.

View our latest analysis for Mayne Pharma Group

What's The Estimated Valuation?

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 ten years. 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, so we discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) estimate

	2023	2024	2025	2026	2027	2028	2029	2030	2031	2032
Levered FCF (A$, Millions)	AU$614.7m	-AU$90.6m	AU$16.7m	AU$13.4m	AU$11.7m	AU$10.7m	AU$10.1m	AU$9.79m	AU$9.63m	AU$9.57m
Growth Rate Estimate Source	Analyst x1	Analyst x1	Analyst x1	Est @ -19.47%	Est @ -13.05%	Est @ -8.56%	Est @ -5.41%	Est @ -3.21%	Est @ -1.67%	Est @ -0.59%
Present Value (A$, Millions) Discounted @ 6.7%	AU$576	-AU$79.6	AU$13.8	AU$10.4	AU$8.5	AU$7.3	AU$6.4	AU$5.8	AU$5.4	AU$5.0

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AU$559m

After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. 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 1.9%. We discount the terminal cash flows to today's value at a cost of equity of 6.7%.

Terminal Value (TV)= FCF₂₀₃₂ × (1 + g) ÷ (r – g) = AU$9.6m× (1 + 1.9%) ÷ (6.7%– 1.9%) = AU$205m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= AU$205m÷ ( 1 + 6.7%)¹⁰= AU$107m

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 AU$667m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of AU$3.9, the company appears quite good value at a 49% 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

Important Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 Mayne Pharma Group 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 6.7%, 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 Mayne Pharma Group

Strength

• Debt is well covered by earnings.

Weakness

• No major weaknesses identified for MYX.

Opportunity

• Forecast to reduce losses next year.

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

Threat

• Debt is not well covered by operating cash flow.

• Has less than 3 years of cash runway based on current free cash flow.

• Not expected to become profitable over the next 3 years.

Next Steps:

Although the valuation of a company is important, 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. 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. 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. Why is the intrinsic value higher than the current share price? For Mayne Pharma Group, we've compiled three important elements you should further research:

1. Risks: For example, we've discovered 2 warning signs for Mayne Pharma Group that you should be aware of before investing here.

2. Future Earnings: How does MYX'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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the ASX 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.

Join A Paid User Research Session
You’ll receive a US$30 Amazon Gift card for 1 hour of your time while helping us build better investing tools for the individual investors like yourself. Sign up here