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A Look At The Fair Value Of Hillenbrand, Inc. (NYSE:HI)

Key Insights

  • The projected fair value for Hillenbrand is US$60.86 based on 2 Stage Free Cash Flow to Equity

  • Current share price of US$48.76 suggests Hillenbrand is potentially trading close to its fair value

  • The US$67.00 analyst price target for HI is 10% more than our estimate of fair value

How far off is Hillenbrand, Inc. (NYSE:HI) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced by projecting its future cash flows and then discounting them to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Don't get put off by the jargon, the math behind it is actually quite straightforward.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

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View our latest analysis for Hillenbrand

The Calculation

We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. 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.

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

2023

2024

2025

2026

2027

2028

2029

2030

2031

2032

Levered FCF ($, Millions)

US$632.5m

US$262.5m

US$275.7m

US$287.2m

US$297.4m

US$306.7m

US$315.3m

US$323.5m

US$331.4m

US$339.2m

Growth Rate Estimate Source

Analyst x1

Analyst x1

Est @ 5.04%

Est @ 4.16%

Est @ 3.55%

Est @ 3.12%

Est @ 2.81%

Est @ 2.60%

Est @ 2.46%

Est @ 2.35%

Present Value ($, Millions) Discounted @ 9.2%

US$579

US$220

US$212

US$202

US$192

US$181

US$170

US$160

US$150

US$141

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$2.2b

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 (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 9.2%.

Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US$339m× (1 + 2.1%) ÷ (9.2%– 2.1%) = US$4.9b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$4.9b÷ ( 1 + 9.2%)10= US$2.0b

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$4.2b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of US$48.8, the company appears about fair value at a 20% discount to where the stock price trades currently. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.

dcf
dcf

The Assumptions

Now 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 Hillenbrand 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 9.2%, which is based on a levered beta of 1.193. 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 Hillenbrand

Strength

  • Earnings growth over the past year exceeded the industry.

  • Debt is well covered by earnings.

  • Dividends are covered by earnings and cash flows.

Weakness

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

Opportunity

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

Threat

  • Debt is not well covered by operating cash flow.

  • Annual earnings are forecast to decline for the next 2 years.

Moving On:

Although the valuation of a company is important, it shouldn't be the only metric you look at when researching 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 example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Hillenbrand, there are three further factors you should consider:

  1. Risks: As an example, we've found 2 warning signs for Hillenbrand that you need to consider before investing here.

  2. Future Earnings: How does HI'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 American 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.

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