An Intrinsic Calculation For Cake Box Holdings Plc (LON:CBOX) Suggests It's 45% Undervalued

Key Insights

• Cake Box Holdings' estimated fair value is UK£3.07 based on 2 Stage Free Cash Flow to Equity

• Cake Box Holdings is estimated to be 45% undervalued based on current share price of UK£1.68

• Cake Box Holdings' peers seem to be trading at a lower discount to fair value based onthe industry average of 42%

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Cake Box Holdings Plc (LON:CBOX) as an investment opportunity by taking the expected future cash flows and discounting them to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!

We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.

See our latest analysis for Cake Box Holdings

The Model

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 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

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (£, Millions)	UK£4.46m	UK£5.04m	UK£5.61m	UK£5.87m	UK£6.09m	UK£6.27m	UK£6.44m	UK£6.58m	UK£6.72m	UK£6.84m
Growth Rate Estimate Source	Analyst x1	Analyst x1	Analyst x1	Est @ 4.65%	Est @ 3.71%	Est @ 3.05%	Est @ 2.59%	Est @ 2.27%	Est @ 2.05%	Est @ 1.89%
Present Value (£, Millions) Discounted @ 6.2%	UK£4.2	UK£4.5	UK£4.7	UK£4.6	UK£4.5	UK£4.4	UK£4.2	UK£4.1	UK£3.9	UK£3.7

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£43m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 1.5%. We discount the terminal cash flows to today's value at a cost of equity of 6.2%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = UK£6.8m× (1 + 1.5%) ÷ (6.2%– 1.5%) = UK£147m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= UK£147m÷ ( 1 + 6.2%)¹⁰= UK£80m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is UK£123m. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of UK£1.7, the company appears quite good value at a 45% discount to where the stock price trades currently. 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.

AIM:CBOX Discounted Cash Flow January 2nd 2024

The Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Cake Box Holdings 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 6.2%, which is based on a levered beta of 0.800. 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 Cake Box Holdings

Strength

• Debt is not viewed as a risk.

• Dividends are covered by earnings and cash flows.

Weakness

• Earnings declined over the past year.

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

Opportunity

• Annual revenue is forecast to grow faster than the British market.

• Trading below our estimate of fair value by more than 20%.

Threat

• No apparent threats visible for CBOX.

Next Steps:

Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. 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. Why is the intrinsic value higher than the current share price? For Cake Box Holdings, there are three pertinent elements you should consider:

1. Risks: Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with Cake Box Holdings , and understanding these should be part of your investment process.

2. Future Earnings: How does CBOX'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 High Quality Alternatives: Do you like a good all-rounder? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the AIM every day. If you want to find the calculation for other stocks 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.