Today I will be providing a simple run-through of the discounted cash flows (DCF) method to estimate the attractiveness of Vanda Pharmaceuticals Inc (NASDAQ:VNDA) as an investment opportunity. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model. Also note that this article was written in March 2018 so be sure check the latest calculation for Vanda Pharmaceuticals here.
Crunching the numbers
I’ve used the 2-stage growth model, which simply means we have two different periods of varying growth rates for the company’s cash flows. Generally the initial phase has higher growth rates that plateau over time. Generally I like to use analyst consensus estimates for free cash flow, but given that VNDA has low analyst coverage with no forecast available, I have extrapolated the most recent reported free cash flow (FCF) based on the average annual revenue growth over the past five years, capped at a reasonable level, and discounted these values at the cost of equity of 11.33%. This resulted in a present value of 5-year cash flow of US$167.91M. Want to know how I arrived at this number? Check out our detailed analysis here.
The infographic above illustrates how VNDA’s earnings are expected to move in the future, which should give you an idea of VNDA’s outlook. Secondly, I calculate the terminal value, which is the business’s cash flow after the first stage. I think it’s suitable to use the 10-year government bond rate of 2.8% as the steady growth rate, which is rightly below GDP growth, but more towards the conservative side. Discounting the terminal value back five years gives us a present value of US$427.65M.
The total value is the sum of cash flows for the next five years and the discounted terminal value, which results in the Total Equity Value, which in this case is US$595.56M. To get the intrinsic value per share, we divide this by the total number of shares outstanding. This results in an intrinsic value of $13.11, which, compared to the current share price of $17.525, we see that Vanda Pharmaceuticals is quite expensive and not available at a discount at this time.
Although the valuation of a company is important, 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 VNDA, I’ve put together three important aspects you should look at:
- Financial Health: Does VNDA 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 VNDA’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 VNDA? 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 for every stock on the NASDAQ every 6 hours. If you want to find the calculation for other stocks 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.