Is WideOpenWest, Inc. (NYSE:WOW) Expensive For A Reason? A Look At Its Intrinsic Value
Key Insights
The projected fair value for WideOpenWest is US$6.17 based on 2 Stage Free Cash Flow to Equity
WideOpenWest's US$7.54 share price signals that it might be 22% overvalued
Our fair value estimate is 59% lower than WideOpenWest's analyst price target of US$15.08
Today we'll do a simple run through of a valuation method used to estimate the attractiveness of WideOpenWest, Inc. (NYSE:WOW) as an investment opportunity by estimating the company's future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. It may sound complicated, but actually it is quite simple!
Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.
Check out our latest analysis for WideOpenWest
Crunching The Numbers
We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. In the first stage we need to estimate the cash flows to the business over the next ten years. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we discount the value of these future cash flows to their estimated value in today's dollars:
10-year free cash flow (FCF) forecast
2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | |
Levered FCF ($, Millions) | -US$150.0k | US$22.3m | US$12.1m | US$27.7m | US$37.0m | US$46.0m | US$54.0m | US$61.0m | US$66.9m | US$71.9m |
Growth Rate Estimate Source | Analyst x2 | Analyst x2 | Analyst x1 | Analyst x1 | Est @ 33.65% | Est @ 24.19% | Est @ 17.56% | Est @ 12.93% | Est @ 9.68% | Est @ 7.41% |
Present Value ($, Millions) Discounted @ 11% | -US$0.1 | US$18.1 | US$8.9 | US$18.3 | US$22.1 | US$24.8 | US$26.3 | US$26.8 | US$26.5 | US$25.7 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$197m
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 (2.1%) 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 11%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$72m× (1 + 2.1%) ÷ (11%– 2.1%) = US$840m
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$840m÷ ( 1 + 11%)10= US$300m
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$497m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of US$7.5, 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.
Important 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 WideOpenWest 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 11%, which is based on a levered beta of 1.472. 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.
Looking Ahead:
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. Why is the intrinsic value lower than the current share price? For WideOpenWest, we've put together three pertinent aspects you should look at:
Risks: Be aware that WideOpenWest is showing 1 warning sign in our investment analysis , you should know about...
Future Earnings: How does WOW'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 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 NYSE every day. If you want to find the calculation for other stocks just search here.
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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.
