Key Insights

Using the 2 Stage Free Cash Flow to Equity, IMI fair value estimate is UK£25.30 IMI's UK£19.77 share price signals that it might be 22% undervalued Analyst price target for IMI is UK£22.15 which is 12% below our fair value estimate

In this article we are going to estimate the intrinsic value of IMI plc (LON:IMI) by projecting its future cash flows and then discounting them to today's value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

View our latest analysis for IMI

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.

Generally we assume that a dollar today is more valuable than a dollar in the future, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) estimate

2025 2026 2027 2028 2029 2030 2031 2032 2033 2034 Levered FCF (£, Millions)  UK£306.1m UK£342.7m UK£370.6m UK£413.0m UK£413.0m UK£415.8m UK£420.7m UK£427.1m UK£434.5m UK£442.9m Growth Rate Estimate Source Analyst x6 Analyst x6 Analyst x2 Analyst x1 Analyst x1 Est @ 0.69% Est @ 1.17% Est @ 1.51% Est @ 1.75% Est @ 1.91% Present Value (£, Millions) Discounted @ 7.9%  UK£284 UK£295 UK£295 UK£305 UK£283 UK£264 UK£248 UK£233 UK£220 UK£208

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£2.6b

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 (2.3%) 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 7.9%.

Story Continues

Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = UK£443m× (1 + 2.3%) ÷ (7.9%– 2.3%) = UK£8.1b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= UK£8.1b÷ ( 1 + 7.9%)10= UK£3.8b

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 UK£6.5b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of UK£19.8, the company appears a touch undervalued at a 22% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.LSE:IMI Discounted Cash Flow March 17th 2025

The Assumptions

We would point out that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 IMI 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 7.9%, which is based on a levered beta of 1.085. 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 IMI

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.

Weakness

Earnings growth over the past year is below its 5-year average.

Dividend is low compared to the top 25% of dividend payers in the Machinery market.

Opportunity

Annual revenue is forecast to grow faster than the British market.

Trading below our estimate of fair value by more than 20%.

Threat

Annual earnings are forecast to grow slower than the British market.

Looking Ahead:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. It's not possible to obtain a foolproof valuation with a DCF model. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/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. What is the reason for the share price sitting below the intrinsic value? For IMI, there are three pertinent factors you should consider:

Risks: Take risks, for example - IMI has  1 warning sign  we think you should be aware of. Future Earnings: How does IMI'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. 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 British 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.

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