• Investors may be wondering whether Xylem at around US$108.12 is offering good value right now, or if the price is running ahead of the fundamentals.
• The stock is down about 4.9% over the past week, 13.6% over the last month and 21.1% year to date, with a 14.5% decline over the past year, even though the 3 year return sits at 6.8% and the 5 year return is roughly flat at a 0.7% decline.
• Recent coverage has focused on how water infrastructure and related equipment fit into long term investment themes, which has kept attention on Xylem despite the share price weakness. Broader sector news on capital spending plans and funding for infrastructure projects also provides context for the recent pullback.
• Xylem currently has a valuation score of 5/6. The rest of this article will compare different valuation methods to that score and then conclude with a way to think about valuation that goes beyond the usual models.

Approach 1: Xylem Discounted Cash Flow (DCF) Analysis

A Discounted Cash Flow, or DCF, model projects a company’s future cash flows and then discounts them back to today using a required rate of return. The goal is to estimate what those future cash streams are worth in today’s dollars.

For Xylem, the model used is a 2 Stage Free Cash Flow to Equity approach. The latest twelve month free cash flow is about $960.7m. Analyst and extrapolated projections provided by Simply Wall St indicate free cash flow figures between $935.2m and $2,899.1m over the next decade, with a specific projection of $1,984m in 2030. All of these are expressed in USD and are below $1b until the later years, when they move into the low single digit billions.

Aggregating and discounting these projected cash flows results in an estimated intrinsic value of $158.50 per share. Compared with the recent share price of about $108.12, the model suggests the stock is 31.8% undervalued based on this DCF view.

Result: UNDERVALUED

Our Discounted Cash Flow (DCF) analysis suggests Xylem is undervalued by 31.8%. Track this in your watchlist or portfolio, or discover 50 more high quality undervalued stocks.

Approach 2: Xylem Price vs Earnings

For a profitable company, the P/E ratio is a useful shorthand for how much investors are paying for each dollar of earnings. It links the share price directly to the bottom line, which makes it a common way to compare companies that are already generating consistent profits.

What counts as a “normal” P/E depends on how fast earnings are expected to grow and how risky those earnings appear. Higher expected growth or lower perceived risk can support a higher P/E, while slower growth or higher risk usually point to a lower one.

Xylem is currently trading on a P/E of 26.2x. This is close to the Machinery industry average of 25.9x and below the peer group average of 32.3x. Simply Wall St’s “Fair Ratio” for Xylem is 28.4x. This is a proprietary estimate of the P/E that could be justified given the company’s earnings profile, industry, profit margins, market cap and key risks.

Because the Fair Ratio incorporates company specific factors, it can be more informative than looking only at peers or the industry. Xylem’s current P/E of 26.2x is below the Fair Ratio of 28.4x, which points to the stock being slightly undervalued on this metric.

Result: UNDERVALUED

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Upgrade Your Decision Making: Choose your Xylem Narrative

Earlier there was a mention of a better way to understand valuation. Narratives are introduced as a simple way for you to attach a clear story about Xylem to specific numbers, linking your view of the business to a forecast for revenue, earnings and margins, then to a Fair Value that you can compare with today’s price.

On Simply Wall St’s Community page, Narratives are set up as easy to use templates. You can either lean toward a more optimistic view, such as the analysts who see Fair Value around US$186.00 with 5.2% forecast annual revenue growth and a future P/E of 37.3x, or a more cautious view, such as the cohort closer to US$123.56 with 3.1% forecast annual revenue growth and a future P/E of 26.4x.

By choosing which Xylem Narrative feels closest to your own expectations and then lining that Fair Value up against the current share price, you get a clearer sense of whether the stock looks attractive or stretched on your terms. Because Narratives refresh as new news, earnings and guidance come in, your valuation view can stay current without needing to rebuild your entire model each time.

Do you think there's more to the story for Xylem? Head over to our Community to see what others are saying!

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.