Estimating The Intrinsic Value Of WSP Global Inc. (TSE:WSP)

Key Insights

• WSP Global's estimated fair value is CA$210 based on 2 Stage Free Cash Flow to Equity

• Current share price of CA$207 suggests WSP Global is potentially trading close to its fair value

• Analyst price target for WSP is CA$240, which is 15% above our fair value estimate

Today we will run through one way of estimating the intrinsic value of WSP Global Inc. (TSE:WSP) by projecting its future cash flows and then discounting them to today's value. Our analysis will employ the Discounted Cash Flow (DCF) model. Don't get put off by the jargon, the math behind it is actually quite straightforward.

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. 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.

See our latest analysis for WSP Global

Step By Step Through The Calculation

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. 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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) estimate

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (CA$, Millions)	CA$856.8m	CA$1.08b	CA$1.22b	CA$1.32b	CA$1.41b	CA$1.48b	CA$1.54b	CA$1.60b	CA$1.65b	CA$1.70b
Growth Rate Estimate Source	Analyst x7	Analyst x7	Analyst x1	Est @ 8.49%	Est @ 6.57%	Est @ 5.22%	Est @ 4.28%	Est @ 3.62%	Est @ 3.16%	Est @ 2.83%
Present Value (CA$, Millions) Discounted @ 7.2%	CA$799	CA$936	CA$987	CA$999	CA$993	CA$974	CA$948	CA$916	CA$882	CA$846

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CA$9.3b

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 7.2%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = CA$1.7b× (1 + 2.1%) ÷ (7.2%– 2.1%) = CA$34b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= CA$34b÷ ( 1 + 7.2%)¹⁰= CA$17b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CA$26b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of CA$207, the company appears about fair value at a 1.3% discount to where the stock price trades currently. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.

dcf

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. If you don't agree with these result, have a go at the calculation yourself and play with the 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 WSP Global 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 7.2%, which is based on a levered beta of 1.113. 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 WSP Global

Strength

• Earnings growth over the past year exceeded its 5-year average.

• Debt is well covered by earnings and cashflows.

Weakness

• Earnings growth over the past year underperformed the Construction industry.

• Dividend is low compared to the top 25% of dividend payers in the Construction market.

Opportunity

• Annual earnings are forecast to grow faster than the Canadian market.

• Current share price is below our estimate of fair value.

Threat

• Annual revenue is expected to decline over the next 3 years.

Looking Ahead:

Whilst important, the DCF calculation is only one of many factors that you need to assess for a company. DCF models are not the be-all and end-all of investment valuation. 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. For WSP Global, there are three fundamental items you should assess:

1. Risks: Every company has them, and we've spotted 1 warning sign for WSP Global you should know about.

2. Future Earnings: How does WSP'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. Simply Wall St updates its DCF calculation for every Canadian stock every day, so if you want to find the intrinsic value of any other stock 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.