Today well do a simple run through of a valuation method used to estimate the attractiveness of B.R.A.I.N. Biotechnology Research and Information Network AG (ETR:BNN) as an investment opportunity by estimating the companys future cash flows and discounting them to their present value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. Models like these may appear beyond the comprehension of a lay person, but theyre fairly easy to follow.

Remember though, that there are many ways to estimate a companys 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 B.R.A.I.N. Biotechnology Research and Information Network

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 arent 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 need to discount the sum of these future cash flows to arrive at a present value estimate:

(Est = FCF growth rate estimated by Simply Wall St)Present Value of 10-year Cash Flow (PVCF) = 12m

The second stage is also known as Terminal Value, this is the businesss cash flow after 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 0.2%. We discount the terminal cash flows to todays value at a cost of equity of 5.7%.

Terminal Value (TV)= FCF2030 (1 + g) (r g) = 11m (1 + 0.2%) (5.7% 0.2%) = 192m

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= 192m ( 1 + 5.7%)10= 110m

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 122m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of 7.4, the company appears slightly overvalued at the time of writing. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. You dont 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 companys future capital requirements, so it does not give a full picture of a companys potential performance. Given that we are looking at B.R.A.I.N. Biotechnology Research and Information Network 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 weve used 5.7%, which is based on a levered beta of 0.919. Beta is a measure of a stocks 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.

Whilst important, the DCF calculation ideally wont be the sole piece of analysis you scrutinize for a company. DCF models are not the be-all and end-all of investment valuation. Preferably youd apply different cases and assumptions and see how they would impact the companys valuation. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. Why is the intrinsic value lower than the current share price? For B.R.A.I.N. Biotechnology Research and Information Network, weve put together three essential aspects you should further examine:

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the XTRA 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. 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. *Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

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B.R.A.I.N. Biotechnology Research and Information Network AG (ETR:BNN) Shares Could Be 20% Above Their Intrinsic Value Estimate - Simply Wall St