HubSpot, Inc. (NYSE:HUBS) Shares Could Be 22% Below Their Intrinsic Value Estimate

HubSpot, Inc. +0.82%

HubSpot, Inc.

HUBS

615.34

+0.82%

Key Insights

  • The projected fair value for HubSpot is US$609 based on 2 Stage Free Cash Flow to Equity
  • HubSpot is estimated to be 22% undervalued based on current share price of US$476
  • Our fair value estimate is 8.6% higher than HubSpot's analyst price target of US$560

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of HubSpot, Inc. (NYSE:HUBS) as an investment opportunity by estimating the company's future cash flows and discounting them to their present value. Our analysis will employ the Discounted Cash Flow (DCF) model. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

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 HubSpot

The Model

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) forecast

2024 2025 2026 2027 2028 2029 2030 2031 2032 2033
Levered FCF ($, Millions) US$368.0m US$486.9m US$784.1m US$1.10b US$1.34b US$1.55b US$1.74b US$1.90b US$2.03b US$2.14b
Growth Rate Estimate Source Analyst x17 Analyst x11 Analyst x2 Analyst x2 Est @ 22.09% Est @ 16.13% Est @ 11.95% Est @ 9.03% Est @ 6.99% Est @ 5.56%
Present Value ($, Millions) Discounted @ 7.2% US$343 US$424 US$637 US$831 US$947 US$1.0k US$1.1k US$1.1k US$1.1k US$1.1k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$8.5b

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 (2.2%) 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 7.2%.

Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$2.1b× (1 + 2.2%) ÷ (7.2%– 2.2%) = US$44b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$44b÷ ( 1 + 7.2%)10= US$22b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$31b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of US$476, the company appears a touch undervalued at a 22% 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.

dcf
NYSE:HUBS Discounted Cash Flow November 29th 2023

Important Assumptions

Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual cash flows. If you don't agree with these result, have a go at the calculation yourself and play with the 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 HubSpot 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 7.2%, which is based on a levered beta of 0.991. 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 HubSpot

Strength
  • Debt is not viewed as a risk.
Weakness
  • Shareholders have been diluted in the past year.
Opportunity
  • Forecast to reduce losses next year.
  • Has sufficient cash runway for more than 3 years based on current free cash flows.
  • Trading below our estimate of fair value by more than 20%.
Threat
  • No apparent threats visible for HUBS.

Looking Ahead:

Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. 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. 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 HubSpot, we've put together three further items you should further examine:

  1. Risks: Case in point, we've spotted 2 warning signs for HubSpot you should be aware of.
  2. Future Earnings: How does HUBS'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. 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.

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