- The projected fair value for ArcBest is US$99.35 based on 2 Stage Free Cash Flow to Equity
- With US$98.46 share price, ArcBest appears to be trading close to its estimated fair value
- Analyst price target for ARCB is US$131, which is 32% above our fair value estimate
How far off is ArcBest Corporation (NASDAQ:ARCB) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced by estimating the company's future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. Don't get put off by the jargon, the math behind it is actually quite straightforward.
Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.
See our latest analysis for ArcBest
Step By Step Through The Calculation
We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. To begin with, we have to get estimates of the next ten years of cash flows. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
Generally we assume that a dollar today is more valuable than a dollar in the future, and so the sum of these future cash flows is then discounted to today's value:
10-year free cash flow (FCF) forecast
|Levered FCF ($, Millions)||US$174.6m||US$157.1m||US$147.0m||US$141.4m||US$138.6m||US$137.5m||US$137.6m||US$138.6m||US$140.2m||US$142.2m|
|Growth Rate Estimate Source||Analyst x3||Est @ -10.03%||Est @ -6.37%||Est @ -3.82%||Est @ -2.03%||Est @ -0.77%||Est @ 0.10%||Est @ 0.72%||Est @ 1.15%||Est @ 1.45%|
|Present Value ($, Millions) Discounted @ 7.4%||US$163||US$136||US$119||US$106||US$97.1||US$89.8||US$83.7||US$78.5||US$74.0||US$69.9|
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$1.0b
The second stage is also known as Terminal Value, this is the business's cash flow after 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 (2.2%) 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 7.4%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$142m× (1 + 2.2%) ÷ (7.4%– 2.2%) = US$2.8b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$2.8b÷ ( 1 + 7.4%)10= US$1.4b
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 US$2.4b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of US$98.5, the company appears about fair value at a 0.9% 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.
Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 ArcBest 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 7.4%, which is based on a levered beta of 1.043. 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 ArcBest
- Debt is not viewed as a risk.
- Balance sheet summary for ARCB.
- Earnings declined over the past year.
- Dividend is low compared to the top 25% of dividend payers in the Transportation market.
- Annual earnings are forecast to grow for the next 3 years.
- Current share price is below our estimate of fair value.
- Annual earnings are forecast to grow slower than the American market.
- What else are analysts forecasting for ARCB?
Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" 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. For ArcBest, there are three fundamental elements you should consider:
- Risks: As an example, we've found 2 warning signs for ArcBest that you need to consider before investing here.
- Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for ARCB's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
- 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 NASDAQGS 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.