A Look At The Intrinsic Value Of Northcoders Group PLC (LON:CODE)
Key Insights
Using the 2 Stage Free Cash Flow to Equity, Northcoders Group fair value estimate is UK£3.06
Current share price of UK£2.75 suggests Northcoders Group is potentially trading close to its fair value
When compared to theindustry average discount to fair value of 38%, Northcoders Group's competitors seem to be trading at a greater discount
Today we will run through one way of estimating the intrinsic value of Northcoders Group PLC (LON:CODE) by estimating the company's future cash flows and discounting them to their present 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 still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
Check out our latest analysis for Northcoders Group
The Model
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 start off with, we need to estimate 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.
Generally we assume that a dollar today is more valuable than a dollar in the future, 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
2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | 2034 | |
Levered FCF (£, Millions) | UK£400.0k | UK£574.0k | UK£751.7k | UK£918.7k | UK£1.07m | UK£1.19m | UK£1.30m | UK£1.38m | UK£1.46m | UK£1.52m |
Growth Rate Estimate Source | Analyst x1 | Est @ 43.49% | Est @ 30.97% | Est @ 22.21% | Est @ 16.08% | Est @ 11.79% | Est @ 8.78% | Est @ 6.68% | Est @ 5.21% | Est @ 4.18% |
Present Value (£, Millions) Discounted @ 6.5% | UK£0.4 | UK£0.5 | UK£0.6 | UK£0.7 | UK£0.8 | UK£0.8 | UK£0.8 | UK£0.8 | UK£0.8 | UK£0.8 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£7.1m
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 1.8%. We discount the terminal cash flows to today's value at a cost of equity of 6.5%.
Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = UK£1.5m× (1 + 1.8%) ÷ (6.5%– 1.8%) = UK£33m
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= UK£33m÷ ( 1 + 6.5%)10= UK£17m
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is UK£25m. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of UK£2.8, the company appears about fair value at a 10% 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.
Important Assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Northcoders 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 6.5%, which is based on a levered beta of 0.862. 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 Northcoders Group
Strength
Debt is not viewed as a risk.
Weakness
Shareholders have been diluted in the past year.
Opportunity
Has sufficient cash runway for more than 3 years based on current free cash flows.
Current share price is below our estimate of fair value.
Threat
No apparent threats visible for CODE.
Moving On:
Whilst important, the DCF calculation shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Northcoders Group, there are three fundamental elements you should consider:
Risks: For instance, we've identified 4 warning signs for Northcoders Group (1 is a bit concerning) you should be aware of.
Future Earnings: How does CODE'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: Do you like a good all-rounder? 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 updates its DCF calculation for every British stock every day, so if you want to find the intrinsic value of any other stock 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com