An intrinsic value calculation for Woodside Petroleum Ltd (ASX:WPL) shows investors are overpaying

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An intrinsic value calculation for Woodside Petroleum Ltd (ASX:WPL) shows investors are overpaying

Alex Johannesen May 10, 2017

How far off is Woodside Petroleum (ASX:WPL) to its intrinsic value? I am going to take a look now by taking the expected future cash flows and discounted them to the value today. A discounted cash flow (DCF) analysis represents the net present value (NPV) of projected cash flows to a stock. Don’t get put off by the jargon, the math behind it is actually quite straightforward.

If you want to learn more about discounted cash flow, the basis for my calcs can be read in detail in the Simply Wall St analysis model.

Please also note that this article was written in May 2017 so be sure check out the updated calculation by following the link below.Check out our latest analysis for Woodside Petroleum

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We are going to use a two stage model that takes into account two stages of growth. The first stage may have a high growth rate and the second stage is usually assumed to have a stable growth rate. To start off with we need to estimate the next 5 years of cash flows, where possible I use analysts estimates but when these aren’t available I have extrapolated the previous Free Cash Flow (FCF) from the year before. For this growth rate I used the average annual growth rate over the past 5 years, but capped to a reasonable level. The sum of these cash flows is then discounted to today’s value.
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Woodside Petroleum (ASX:WPL) Intrinsic Value May 10th 17

The calculation

Note the numbers here are in millions apart from the per share values.
5-year cash flow estimate

	Column 1	Column 2	Column 3	Column 4	Column 5	Column 6
0		2017	2018	2019	2020	2021
1	Levered FCF (USD, Millions)[/B]	$991.37	$1,874.72	$2,147.83	$1,953.05	$1,775.94
2	Source	Analyst x5	Analyst x5	Analyst x4	Extrapolated @ (-9.07%)	Extrapolated @ (-9.07%)
3	Present Value Discounted @ 13.53%	$873.23	$1,454.52	$1,467.82	$1,175.65	$941.63

Present value of next 5 years cash flows: $5,913

The 2nd stage is also known as Terminal Value, this is the cash flows to the business after the 1st stage. For a number of reasons a very conservative rate is used that cannot exceed that of the GDP. In this case I have used the 10 year government bond rate (2.6%). In the same way as with the 5 year ‘growth’ period we discount this to today’s value.
Terminal Value

Terminal Value = FCF₂₀₂₁ × (1 + g) ÷ (Discount Rate – g)
Terminal Value = $1,776 × (1 + 2.6%) ÷ (13.5% – 2.6%)
Terminal value based on the Perpetuity Method where growth (g) = 2.6%: $16,671
Present value of terminal value: $8,839

The total value or equity value is then the sum of of the present value of the cash flows.
Equity Value

Equity Value (Total value) = Present value of next 5 years cash flows + terminal value = $5,913 + $8,839 = $14,752

To get the intrinsic value we divide this by the total number of shares outstanding, or the equivalent number if this is a depositary receipt or ADR to get the intrinsic value per share.
Value = Total value / Shares Outstanding ($14,752.32 / 842.44)
Value per share (USD): $17.51
Exchange rate USD /AUD = 1.36
Value per share (AUD): $23.81

Finally if we compare the intrinsic value of 23.81 to the current share price of $32.34 we see Woodside Petroleum (ASX:WPL) is rather overvalued and not available at a discount at this time.
The Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. If you don’t agree with my result, have a go at the calculation yourself and play with the assumptions. Because we are looking at Woodside Petroleum as potential investors the Cost of Equity is used as the discount rate, not the Cost of Capital (or Weighed Average Cost of Capital/ WACC) which accounts for debt.
In this calculation I’ve used 13.5% and this is based on a Levered Beta of 1.477. I’m not going to go into how I calculate the Levered Beta in detail, I used the ‘Bottom up Beta’ method based on the comparable businesses, I also impose a limit between 0.8 and 2 which is a reasonable range for a stable business. Google this if you want to learn more.
Conclusion

Whilst important, DCF calculation shouldn’t be the only metric you look at when researching a company. Is Woodside Petroleum in a healthy financial condition? What is the reason for the share price to differ from the intrinsic value? See our latest FREE analysis to find out!
PS. Simply Wall St does a DCF calculation for every AU stock every 6 hours, so if you want to find the intrinsic value of any other stock just search here.
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Daniel Loe