Hi Yoav, I would assign minimal weight to the DCF. It's an illustration of where the numbers could end up down the line rather than a reliable valuation (what valuation is reliable?). Best stick with a realistic estimate of owner earnings yield and combine that with expected forward growth. As to growth capex - it can make sense to exclude this to understand the underlying earnings power of a firm in a steady-state. Look at Buffett's "owner earnings" formula. Depreciation is sometimes not equal to actual cash outflows to maintain today's PP&E. Hence we add back D&A, and deduct a fair estimate of maintenance capex to approximate the cash an owner could take out today with no growth, which would mean no growth capex and no working capital movements i.e., net income would be similar to free cash flow. This is all theoretical, of course. If you were to build out a DCF in perfect lab conditions, then yes, you would back out all of the capex to get to a precise estimate of the PV of free cash flows today. DCFs model 5-year and sometimes 10-year periods, but over a long enough timeline, you would expect the (rational) firm to hit maintenance capex as it matures and growth opportunities fade. Then it gushes free cash flow. Apologies for the long-winded answer, but hope that helps at least a little?
It's an excellent and thoughtful analysis. Thank you.
Thank you Leslie - glad you found it useful
I would check Sohra Peak Capital’s write up on this company.
Didn’t realize! Thanks for the pitch.
It's attached at the bottom!
Thanks, this truly was very interesting. might just be the next company to dive in to.
Being a noob, I dont seem to understand 2 things:
1. how did you derive £5.2 share price from x8 ebitda terminal multiple?
2. isn't there a need to take the grotwth capex into account in the valuation somehow?
thanks again
Hi Yoav, I would assign minimal weight to the DCF. It's an illustration of where the numbers could end up down the line rather than a reliable valuation (what valuation is reliable?). Best stick with a realistic estimate of owner earnings yield and combine that with expected forward growth. As to growth capex - it can make sense to exclude this to understand the underlying earnings power of a firm in a steady-state. Look at Buffett's "owner earnings" formula. Depreciation is sometimes not equal to actual cash outflows to maintain today's PP&E. Hence we add back D&A, and deduct a fair estimate of maintenance capex to approximate the cash an owner could take out today with no growth, which would mean no growth capex and no working capital movements i.e., net income would be similar to free cash flow. This is all theoretical, of course. If you were to build out a DCF in perfect lab conditions, then yes, you would back out all of the capex to get to a precise estimate of the PV of free cash flows today. DCFs model 5-year and sometimes 10-year periods, but over a long enough timeline, you would expect the (rational) firm to hit maintenance capex as it matures and growth opportunities fade. Then it gushes free cash flow. Apologies for the long-winded answer, but hope that helps at least a little?
Very clear explanation.
Interesting write-up