Virgin Galactic: The Best Time To Go Long Is Now – Seeking Alpha

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Despite reaching the most important milestone in its history, Virgin Galactic (NYSE:SPCE) shredded off nearly 80% of its value since June last year. Although it is still one year away from the first revenue-generating spaceflight, the extend of its selloff is not warranted considering its progress and $1bn in liquidity. My FCF valuation model indicates 150% undervaluation at a current market price of $12, so I maintain a strong buy view on this stock.

Virgin Galactic is a space flight company backed by billionaire Richard Branson and forms part of the Virgin Group. Earlier last year Ive published my first piece on VG, so if you missed it you can pick it up here. Ive discussed a great deal of the companys business model and the commercial space tourism market trends in that article, so I will not go through it again. Rather, I am going to focus more on all major developments that happened since March last year (including latest Q3 results) and present my updated financial model.

Since my last article, my target price has been downwardly reviewed from $48 to $30 as a result of the revenue-generating phase delay and stock dilution, which I will discuss in more detail under the valuation section.

Data by YCharts

After so many years of delayed launches and unfulfilled promises, VG has finally made it it launched its final test flight on 11th July 2021 with Sir Richard Branson on board. What a milestone! In addition, it has also received approval to fly people into the space from US aviation safety regulator FAA in June. So, now the company is officially ready to start sending private clients into space and to start its transition from a prototyping space innovator to a global, scaled, commercial operation.

Despite all skeptics out there, VG proved that it could deliver on its main promise. Nevertheless, same skeptics are now downgrading VG progress suggesting that the altitude of 53 miles, which has been reached by the VSS Unity, is not an actual outer space as it is ten miles lower than the, so-called, Karman line. I am not inclined to spend too much time debating this argument, but what I want to say is that the experience at both altitudes is exactly the same in terms of weightlessness and Earth view. In addition, some scientists argue that a more suitable choice for the beginning of space would be an altitude of 50 miles.

Blue Origin, which is currently the only competitor of the VG on suborbital commercial flights, followed suit and completed its demonstration flight with Jeff Bezos on board of New Shepherd on the 21st July, just ten days after Branson's flight.

Both companies offer suborbital flights into space with two to three minutes of weightlessness, but by design, the experiences are substantially different. New Shepherd is a much more of a traditional rocket, some sort of a rocket-and-capsule combo. It has a vertical takeoff, reaches an altitude of around 66 miles above the surface, and then is parachuted back to the Earth. The trip lasts approximately 10 minutes. On the contrary, VGs spaceship VSS Unity uses a mothership VMS Eve for a takeoff and is detached from it after reaching space. Its trip lasts around 90 minutes, and it lands on a runway like a traditional plane.

From the user experience point of view, I think both companies offer spectacular once in a lifetime experiences, and it probably depends on someones preferences which one to choose. I personally find VG design more appealing. Its cabin is more spacious, the seats are more flexible (looks more comfortable), and its easier to unbuckle the seatbelts. The access to space is more gradual as you are not shot straight into the space as in the case of New Shepherd. Despite those little wins I believe there should be sufficient demand for these two companies as well as any newcomers as the space tourism market is untapped now and is going to increase to some $3bn within the next 5 years.

However, what is more important from an analyst's point of view is the growth and scalability prospects, and from that angle, VG wins a big time. Firstly, as soon as the company starts its commercial flights and with the addition of new spaceports the scalability should ramp up very quickly. Sub-orbital space travel is only a start for VG. There are plans to offer hypersonic travel that they are working on in partnership with NASA and Rolls-Royce, which developed the original Concordes engines. VGs technology seems like a good fit for high-speed point-to-point travel on Earth. On the contrary, New Shepherd is designed purely as a space tourism vehicle and new technology will have to be developed by Blue Origin to be able to enter the hypersonic travel market.

These prospects of VG are very important for the analysis because potentially they are not only going to have a share of the space tourism market, but also a share of the commercial air travel market that before Covid-19 outbreak stand at approx. $600bn.

VG remains a cash-burning machine, which is not surprising considering it has not started its commercial service yet. It has been spending cash at a rate of $60m a quarter in 2021, so its estimated cash loss for this year is around $240m. At this cash burning rate their liquidity position of around $1bn will allow it to remain afloat for another three years and considering that they are planning to start commercial service in Q1-23 it should be more than enough.

Source: VG Earnings presentation Q3-21

I have made two important adjustments to my FCF model since my previous report. Firstly, the company confirmed (as I have expected) that the ticket price for future flights will increase. My projection was an increase of 40%, but VG has increased price way more aggressively by 80% to $450k per seat. This is of course an upside adjustment to my target price. The increase was well received by the clients and out of 1000 reservations to buy tickets, 700 had been sold by August last year. This is in addition to the previously sold 600 at lower prices. The pipeline looks very strong and it is clear that demand is not an issue for the space travel market.

Another adjustment comes from the company announcement to postpone the first revenue-generating flight to the Q1-2023 which means that until that moment we cannot record the tickets sales as a revenue item.

Despite a substantial increase in tickets price, my valuation model shows a target price of $30 which is a notable downward revision to my previously calculated price of $48. This is mainly due to a delay of the first revenue-generating spaceflight and stock dilution to 255m from the previous 225m.

Nevertheless, $30 represents 150% undervaluation at the current market price of $12, so I hold strong buy view on the stock.

Source: Authors calculations

I have used the discount rate of 10% to account for the uncertainty related and considering the current ERP is 5.5% it is quite reasonable. The terminal growth rate of 6% corresponds to the commercial space market growth rate according to the US Chamber of Commerce. I also present a sensitivity table below if you prefer to use different assumptions.

Source: Authors calculations

It is important to note that my valuation is based only on the first phase of the companys growth plan, so there is significant upside potential to the target price if the company enters the commercial air travel market with its hypersonic flights' offer.

Despite a strong demand for commercial space travel the company still does not have a predictable revenue stream. In October VG announced the beginning of the planned vehicle enhancement period with the expected start of commercial service only in Q1-23, so there is a prolonged period of no flights ahead of us, so its main risk of burning all its cash remains on the table. The companys liquidity should be able to cover running R&D and CapEx expenses for at least another three to four years, so there is still some room for further delays.

VG reached an especially important milestone last year by completing its test flights cycle and, technically, it is in a position now to start sending private clients to space. Clearly, the demand for space travel is not an issue and if the company starts revenue-generating spaceflights early 2023 it should scale up quickly and be able to reach a $1bn revenue milestone by the end of 2025. Considering the space travel is only the first stage of its growth plan and potentially VG may tap into the commercial flights market with TAM $600bn, this company may indeed grow significantly in a long term.

My valuation model indicates 150% undervaluation at current market prices, so I maintain a strong buy view on this stock. However, this should only be considered as a long-term play at this stage and is only appropriate for investors with high tolerance to risk.

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Virgin Galactic: The Best Time To Go Long Is Now - Seeking Alpha