Key Insights
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MTU Aero Engines' estimated fair value is €581 based on 2 Stage Free Cash Flow to Equity
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MTU Aero Engines is estimated to be 35% undervalued based on current share price of €381
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Analyst price target for MTX is €419 which is 28% below our fair value estimate
Does the February share price for MTU Aero Engines AG ( ETR:MTX ) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by taking the expected future cash flows and discounting them to their present value. This will be done using the Discounted Cash Flow (DCF) model. 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 .
Is MTU Aero Engines Fairly Valued?
We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To begin with, we have to get estimates of the next ten years of cash flows. 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) estimate
| 2026 |
2027 |
2028 |
2029 |
2030 |
2031 |
2032 |
2033 |
2034 |
2035 |
|
|---|---|---|---|---|---|---|---|---|---|---|
| Levered FCF (€, Millions) |
€588.2m |
€825.3m |
€936.6m |
€1.10b |
€1.24b |
€1.33b |
€1.41b |
€1.47b |
€1.53b |
€1.58b |
| Growth Rate Estimate Source |
Analyst x8 |
Analyst x8 |
Analyst x4 |
Analyst x3 |
Analyst x3 |
Est @ 7.71% |
Est @ 5.91% |
Est @ 4.66% |
Est @ 3.78% |
Est @ 3.16% |
| Present Value (€, Millions) Discounted @ 5.8% |
€556 |
€738 |
€792 |
€883 |
€933 |
€950 |
€951 |
€941 |
€924 |
€901 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF)= €8.6b
After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. 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 (1.7%) 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 5.8%.
Terminal Value (TV)= FCF2035 × (1 + g) ÷ (r – g) = €1.6b× (1 + 1.7%) ÷ (5.8%– 1.7%) = €40b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €40b÷ ( 1 + 5.8%)10= €23b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is €31b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of €381, the company appears quite undervalued at a 35% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.
Important 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. 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 MTU Aero Engines 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 5.8%, which is based on a levered beta of 0.955. 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.
View our latest analysis for MTU Aero Engines
SWOT Analysis for MTU Aero Engines
Strength
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Earnings growth over the past year exceeded the industry.
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Debt is not viewed as a risk.
Weakness
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Earnings growth over the past year is below its 5-year average.
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Dividend is low compared to the top 25% of dividend payers in the Aerospace & Defense market.
Opportunity
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Annual revenue is forecast to grow faster than the German market.
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Good value based on P/E ratio and estimated fair value.
Threat
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Annual earnings are forecast to grow slower than the German market.
Looking Ahead:
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. 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?" 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 MTU Aero Engines, we've put together three fundamental items you should look at:
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Financial Health: Does MTX have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
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Future Earnings: How does MTX'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 .
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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 XTRA every day. If you want to find the calculation for other stocks 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.
