Using reverse valuation methods, the market expects Intel to grow between -2.3% and 3.8%.
Intel is Still a Solid Pick
In my previous article "Intel is a Solid Pick Worth Over $35," I went through a fundamental valuation of Intel (NASDAQ:INTC) that pegged the fair value in the mid $30s based on assumptions of 10% FCF growth.
You might argue that Intel has no chance of growing at 10%, especially since it is destined to be doomed and PC sales will dwindle down to nothing.
But forget about that for a moment and focus on how the market is valuing Intel.
Rather than a forward looking valuation, I'll work backwards this time to get an idea of whether the valuation Mr. Market is putting on Intel is realistic or not.
Paraphrasing Warren Buffett, you don't have to know a person's weight to know whether that person is overweight or not.
Keep this is mind as you read this article.
Figuring out Market Expectation with Reverse DCF
A reverse DCF is fairly simple.
In the original article, my assumptions were
- Discount rate of 9%
- Starting FCF of $10,000m
- Growth rate of 10%
In a reverse DCF, I can easily adjust the growth rate using my stock analysis spreadsheet so that the fair value matches the current share price. This will show what the market expected growth is.
Reverse DCF 1st scenario:
This one will be the same assumptions as the previous articles.
- Discount rate of 9%
- Starting FCF of $10,000m
Looks like Mr. Market is expecting 1.1% growth under these conditions.
Reverse DCF 2nd scenario:
As Intel tends to make acquisitions for further growth, let's say this eats into FCF as an increase in capex.
- Rather than using $10,000m as a starting figure, in the TTM FCF is $9,497m.
- Also using the WACC of 10.48% as the discount rate
Based on these figures, Mr. Market is implying that Intel will grow at 3.8%.
Reverse DCF 3rd scenario:
There was a comment that capex should be better analyzed, and that is true but the better method would be to separate capex into maintenance and growth capex.
Maintenance capex is the true capex while growth capex should be removed from the total capital expenditure figure.
I've already detailed how to calculate this in a blog post of mine so I won't go into all the details here. If you wish to read more on how to calculate maintenance capex, click the link.
Using the financial information that I have, here are my maintenance capex calculations.
In the TTM, maintenance capex looks to be $5,000m out of the TTM capex of $9,500m. This means that $4,500m is expected to be for growth.
But it shows that Depreciation and Amortization for TTM is $6,742m, which is much higher than the $4,500m.
To err on the side of conservatism, I will use a capex of $7,000m in this scenario.
- Starting FCF = 20,690m - 7,000m = $13,690m
- Discount rate is WACC of 10.48%
Under these conditions, Mr. Market is judging Intel to have negative growth of -2.3%.
Mr. Market and Intel Say Complete Opposite Things
Mr. Market is expecting FCF growth to be between -2.3% and 3.8%.
But this isn't what Intel is telling you. In fact, based on Intel's history, this should be insulting.
Looking at historical growth sequentially isn't of much help, but when you look at it over different time periods, you get a much better picture of how Intel has performed.
FCF growth over the past 5-year rolling periods shown above shows growth to have been 14.6%, while the periods over a 10-period show growth of 5.6%.
Both are clearly ahead of current market expectation, and what's more interesting is that the 5-year performance is a huge improvement showing that Intel is performing at a much better rate.
Yes these numbers are based on the past, but by looking at the fundamentals from the initial article, there isn't much to derail Intel.
Reverse Growth Using EPS
Doing the same thing as a Reverse DCF, except using the Graham's Formula using EPS, the expected growth is 0.6%, which does fall into the market expected growth of -2.3% to 3.8%.
Are Market Assumptions Realistic?
One lesson I have learned in investing is to use the stock price and market assumptions as a tool and NOT as a guide.
If I took the market's word that Intel is destined to grow at less than 3.8%, then this is a bad investment, but then again, the market believed that GMCR was going to grow at 125% at one point before correcting itself to where it is now.
Are markets always correct? Of course not.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.