# Calculating The Fair Value Of The Toro Company (NYSE:TTC)

Simply Wall St · 07/01 10:17

### Key Insights

• Toro's estimated fair value is US\$110 based on 2 Stage Free Cash Flow to Equity
• Current share price of US\$93.51 suggests Toro is potentially trading close to its fair value
• Analyst price target for TTC is US\$103 which is 6.8% below our fair value estimate

In this article we are going to estimate the intrinsic value of The Toro Company (NYSE:TTC) by estimating the company's future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. Believe it or not, it's not too difficult to follow, as you'll see from our example!

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. 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 Toro

## Step By Step Through The Calculation

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, 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) US\$484.7m US\$525.8m US\$557.1m US\$584.4m US\$608.5m US\$630.5m US\$650.9m US\$670.3m US\$689.1m US\$707.5m Growth Rate Estimate Source Analyst x4 Analyst x2 Est @ 5.96% Est @ 4.89% Est @ 4.13% Est @ 3.61% Est @ 3.24% Est @ 2.98% Est @ 2.80% Est @ 2.67% Present Value (\$, Millions) Discounted @ 7.3% US\$452 US\$457 US\$451 US\$441 US\$428 US\$414 US\$398 US\$382 US\$366 US\$350

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US\$4.1b

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 2.4%. We discount the terminal cash flows to today's value at a cost of equity of 7.3%.

Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = US\$708m× (1 + 2.4%) ÷ (7.3%– 2.4%) = US\$15b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US\$15b÷ ( 1 + 7.3%)10= US\$7.3b

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 US\$11b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of US\$93.5, the company appears about fair value at a 15% 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.

## The Assumptions

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 Toro 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 7.3%, which is based on a levered beta of 1.065. 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 Toro

Strength
• Debt is well covered by earnings and cashflows.
• 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 Machinery market.
Opportunity
• Annual earnings are forecast to grow for the next 3 years.
• Current share price is below our estimate of fair value.
Threat
• Annual earnings are forecast to grow slower than the American market.

## Moving On:

Valuation is only one side of the coin in terms of building your investment thesis, and it is only one of many factors that you need to assess for a company. DCF models are not the be-all and end-all of investment valuation. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Toro, we've put together three further items you should consider:

1. Risks: For instance, we've identified 3 warning signs for Toro that you should be aware of.
2. Future Earnings: How does TTC'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 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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the NYSE every day. If you want to find the calculation for other stocks just search here.