- Planet Fitness’ estimated fair value is US$57.27 based on 2 Stage Free Cash Flow to Equity
- Planet Fitness’ US$66.76 share price indicates it is trading at similar levels as its fair value estimate
- Our fair value estimate is 33% lower than Planet Fitness’ analyst price target of US$85.67
Today we’ll do a simple run through of a valuation method used to estimate the attractiveness of Planet Fitness, Inc. (NYSE:PLNT) as an investment opportunity by projecting its future cash flows and then discounting them to today’s value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!
We generally believe that a company’s value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.
See our latest analysis for Planet Fitness
We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company’s cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. In the first stage we need to estimate the cash flows to the business over the next ten years. Where possible we use analyst estimates, but when these aren’t available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
Generally we assume that a dollar today is more valuable than a dollar in the future, and so the sum of these future cash flows is then discounted to today’s value:
10-year free cash flow (FCF) estimate
|Levered FCF ($, Millions)||US$223.1m||US$295.0m||US$337.6m||US$373.8m||US$404.3m||US$429.9m||US$451.7m||US$470.6m||US$487.3m||US$502.5m|
|Growth Rate Estimate Source||Analyst x5||Analyst x2||Est @ 14.43%||Est @ 10.74%||Est @ 8.15%||Est @ 6.34%||Est @ 5.07%||Est @ 4.18%||Est @ 3.56%||Est @ 3.12%|
|Present Value ($, Millions) Discounted @ 9.6%||US$204||US$246||US$257||US$259||US$256||US$248||US$238||US$227||US$214||US$202|
(“Est” = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$2.4b
We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 (2.1%) 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 9.6%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$503m× (1 + 2.1%) ÷ (9.6%– 2.1%) = US$6.9b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$6.9b÷ ( 1 + 9.6%)10= US$2.8b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$5.1b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of US$66.8, the company appears around fair value at the time of writing. 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.
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Planet Fitness 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 9.6%, which is based on a levered beta of 1.256. 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 Planet Fitness
- Earnings growth over the past year exceeded the industry.
- Debt is well covered by earnings.
- Expensive based on P/E ratio and estimated fair value.
- Annual earnings are forecast to grow faster than the American market.
- Significant insider buying over the past 3 months.
- Debt is not well covered by operating cash flow.
- Total liabilities exceed total assets, which raises the risk of financial distress.
- Revenue is forecast to grow slower than 20% per year.
Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won’t 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 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. For Planet Fitness, we’ve compiled three fundamental items you should further research:
- Risks: Case in point, we’ve spotted 2 warning signs for Planet Fitness you should be aware of.
- Future Earnings: How does PLNT’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 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. Simply Wall St updates its DCF calculation for every American stock every day, so if you want to find the intrinsic value of any other stock 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.