Is There An Opportunity With Flutter Entertainment plc's (LON:FLTR) 27% Undervaluation?
Key Insights
The projected fair value for Flutter Entertainment is UK£180 based on 2 Stage Free Cash Flow to Equity
Current share price of UK£132 suggests Flutter Entertainment is potentially 27% undervalued
Analyst price target for FLTR is UK£176 which is 2.3% below our fair value estimate
Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Flutter Entertainment plc (LON:FLTR) as an investment opportunity by taking the forecast future cash flows of the company and discounting them back to today's value. Our analysis will employ the Discounted Cash Flow (DCF) model. There's really not all that much to it, even though it might appear quite complex.
We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.
View our latest analysis for Flutter Entertainment
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. 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) estimate
2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | |
Levered FCF (£, Millions) | UK£1.08b | UK£1.40b | UK£1.75b | UK£2.00b | UK£2.22b | UK£2.39b | UK£2.53b | UK£2.64b | UK£2.74b | UK£2.82b |
Growth Rate Estimate Source | Analyst x12 | Analyst x10 | Analyst x2 | Est @ 14.52% | Est @ 10.58% | Est @ 7.82% | Est @ 5.89% | Est @ 4.53% | Est @ 3.59% | Est @ 2.93% |
Present Value (£, Millions) Discounted @ 8.4% | UK£996 | UK£1.2k | UK£1.4k | UK£1.5k | UK£1.5k | UK£1.5k | UK£1.4k | UK£1.4k | UK£1.3k | UK£1.3k |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£13b
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. 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 (1.4%) 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 8.4%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = UK£2.8b× (1 + 1.4%) ÷ (8.4%– 1.4%) = UK£41b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= UK£41b÷ ( 1 + 8.4%)10= UK£18b
The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is UK£32b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of UK£132, the company appears a touch undervalued at a 27% 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.
The Assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Flutter Entertainment 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 8.4%, which is based on a levered beta of 1.182. 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 Flutter Entertainment
Strength
Net debt to equity ratio below 40%.
Weakness
Interest payments on debt are not well covered.
Opportunity
Expected to breakeven next year.
Has sufficient cash runway for more than 3 years based on current free cash flows.
Good value based on P/S ratio and estimated fair value.
Threat
Debt is not well covered by operating cash flow.
Next Steps:
Although the valuation of a company is important, it is only one of many factors that you need to assess for 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. If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. Can we work out why the company is trading at a discount to intrinsic value? For Flutter Entertainment, we've compiled three relevant aspects you should explore:
Financial Health: Does FLTR 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 FLTR'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 LSE 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.