Key Insights

Taylor Wimpey's estimated fair value is UK£1.85 based on 2 Stage Free Cash Flow to Equity Taylor Wimpey is estimated to be 40% undervalued based on current share price of UK£1.11 Our fair value estimate is 26% higher than Taylor Wimpey's analyst price target of UK£1.47

Does the March share price for Taylor Wimpey plc (LON:TW.) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by projecting its future cash flows and then discounting them to today's value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. Believe it or not, it's not too difficult to follow, as you'll see from our example!

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

Check out our latest analysis for Taylor Wimpey

The Model

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. 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, so we need to discount the sum of these future cash flows to arrive at a present value estimate:

10-year free cash flow (FCF) forecast

2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 Levered FCF (£, Millions)  UK£185.2m UK£313.6m UK£328.9m UK£390.0m UK£435.3m UK£473.7m UK£506.3m UK£534.1m UK£558.4m UK£579.9m Growth Rate Estimate Source Analyst x6 Analyst x8 Analyst x7 Analyst x2 Est @ 11.62% Est @ 8.83% Est @ 6.87% Est @ 5.50% Est @ 4.54% Est @ 3.87% Present Value (£, Millions) Discounted @ 8.8%  UK£170 UK£265 UK£255 UK£278 UK£286 UK£286 UK£281 UK£272 UK£262 UK£250

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£2.6b

Story Continues

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 2.3%. We discount the terminal cash flows to today's value at a cost of equity of 8.8%.

Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = UK£580m× (1 + 2.3%) ÷ (8.8%– 2.3%) = UK£9.1b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= UK£9.1b÷ ( 1 + 8.8%)10= UK£3.9b

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 UK£6.5b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of UK£1.1, the company appears quite good value at a 40% 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.LSE:TW. Discounted Cash Flow March 14th 2025

The Assumptions

We would point out that 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 Taylor Wimpey 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 8.8%, which is based on a levered beta of 1.265. 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 Taylor Wimpey

Strength

Debt is not viewed as a risk.

Dividend is in the top 25% of dividend payers in the market.

Weakness

Earnings declined over the past year.

Opportunity

Annual earnings are forecast to grow faster than the British market.

Good value based on P/E ratio and estimated fair value.

Threat

Dividends are not covered by earnings and cashflows.

Revenue is forecast to grow slower than 20% per year.

Looking Ahead:

Whilst important, the DCF calculation 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. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. Can we work out why the company is trading at a discount to intrinsic value? For Taylor Wimpey, there are three further factors you should assess:

Risks: Take risks, for example - Taylor Wimpey has  3 warning signs  (and 1 which is a bit unpleasant)  we think you should know about. Future Earnings: How does TW.'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. 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. Simply Wall St updates its DCF calculation for every British 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.

View Comments