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# Is There An Opportunity With Packaging Corporation of America’s (NYSE:PKG) 43.65% Undervaluation?

In this article I am going to calculate the intrinsic value of Packaging Corporation of America (NYSE:PKG) by estimating the company’s future cash flows and discounting them to their present 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. If you are reading this and its not January 2019 then I highly recommend you check out the latest calculation for Packaging of America by following the link below.

### What’s the value?

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 five years of cash flows. 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 estimate

 2019 2020 2021 2022 2023 Levered FCF (\$, Millions) \$790.12 \$951.50 \$1.04k \$1.13k \$1.23k Source Analyst x6 Analyst x1 Est @ 9.06% Est @ 9.06% Est @ 9.06% Present Value Discounted @ 10.65% \$714.04 \$777.09 \$765.88 \$754.83 \$743.94

Present Value of 5-year Cash Flow (PVCF)= US\$3.8b

We now need to calculate the Terminal Value, which accounts for all the future cash flows after the five years. For a number of reasons a very conservative growth rate is used that cannot exceed that of the GDP. In this case I have used the 10-year government bond rate (2.9%). In the same way as with the 5-year ‘growth’ period, we discount this to today’s value at a cost of equity of 10.7%.

Terminal Value (TV) = FCF2023 × (1 + g) ÷ (r – g) = US\$1.2b × (1 + 2.9%) ÷ (10.7% – 2.9%) = US\$16b

Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US\$16b ÷ ( 1 + 10.7%)5 = US\$9.9b

The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US\$14b. 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 \$146.09. Compared to the current share price of \$82.32, the stock is quite undervalued at a 44% discount to what it is available for right now.

### The assumptions

Now 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 my result, have a go at the calculation yourself and play with the assumptions. Because we are looking at Packaging of America 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 10.7%, which is based on a levered beta of 1.093. 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 PKG, I’ve compiled three key factors you should look at:

1. Financial Health: Does PKG 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 PKG’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 PKG? 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.