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Estimating The Fair Value Of Johnson Controls International Plc (NYSE:JCI)

Simply Wall St ·  11/16/2023 19:28

Key Insights

  • The projected fair value for Johnson Controls International is US$58.74 based on 2 Stage Free Cash Flow to Equity
  • Johnson Controls International's US$51.87 share price indicates it is trading at similar levels as its fair value estimate
  • The US$69.86 analyst price target for JCI is 19% more than our estimate of fair value

Today we will run through one way of estimating the intrinsic value of Johnson Controls International plc (NYSE:JCI) by taking the expected future cash flows and discounting them to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. 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.

View our latest analysis for Johnson Controls International

The Calculation

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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) estimate

2024 2025 2026 2027 2028 2029 2030 2031 2032 2033
Levered FCF ($, Millions) US$2.57b US$2.84b US$3.03b US$3.18b US$3.32b US$3.44b US$3.54b US$3.65b US$3.75b US$3.84b
Growth Rate Estimate Source Analyst x8 Analyst x7 Analyst x1 Est @ 4.99% Est @ 4.16% Est @ 3.58% Est @ 3.17% Est @ 2.89% Est @ 2.69% Est @ 2.55%
Present Value ($, Millions) Discounted @ 9.9% US$2.3k US$2.4k US$2.3k US$2.2k US$2.1k US$2.0k US$1.8k US$1.7k US$1.6k US$1.5k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$20b

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. 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 2.2%. We discount the terminal cash flows to today's value at a cost of equity of 9.9%.

Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$3.8b× (1 + 2.2%) ÷ (9.9%– 2.2%) = US$51b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$51b÷ ( 1 + 9.9%)10= US$20b

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$40b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of US$51.9, the company appears about fair value at a 12% discount to where the stock price trades currently. 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.

dcf
NYSE:JCI Discounted Cash Flow November 16th 2023

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 Johnson Controls International 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 9.9%, which is based on a levered beta of 1.291. 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 Johnson Controls International

Strength
  • Earnings growth over the past year exceeded the industry.
  • Debt is well covered by earnings and cashflows.
  • Dividends are covered by earnings and cash flows.
  • Dividend information for JCI.
Weakness
  • Dividend is low compared to the top 25% of dividend payers in the Building market.
Opportunity
  • Annual earnings are forecast to grow for the next 4 years.
  • Good value based on P/E ratio and estimated fair value.
Threat
  • Annual earnings are forecast to grow slower than the American market.
  • What else are analysts forecasting for JCI?

Looking Ahead:

Whilst important, the DCF calculation is only one of many factors that you need to assess for a company. The DCF model is not a perfect stock valuation tool. 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 Johnson Controls International, we've compiled three important elements you should look at:

  1. Risks: Take risks, for example - Johnson Controls International has 3 warning signs we think you should be aware of.
  2. Future Earnings: How does JCI'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 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 American 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.

The above content is for informational or educational purposes only and does not constitute any investment advice related to Futu. Although we strive to ensure the truthfulness, accuracy, and originality of all such content, we cannot guarantee it.
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