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Highlights
- Uses a two-stage discounted cash flow model for valuation
- SCI operates in the deathcare services sector under (NYSE:SCI)
- Intrinsic value projection based on forecasted free cash flows
Service Corporation International (NYSE:SCI), a leading player in the deathcare services industry, trades on the NYSE Composite and is also part of the S&P 500 index. The company provides funeral, cremation, and cemetery services across North America. To understand its intrinsic value, a discounted cash flow (DCF) model is applied, offering a long-term perspective based on future expected cash generation.
Two-Stage DCF Model
The two-stage DCF model begins by estimating cash flows over an initial period of higher growth, followed by a phase where growth stabilizes. This method assumes that expansion rates tend to slow down as a business matures. For SCI, this approach is useful due to its established market presence and historical performance.
In the absence of consistent analyst estimates for each year, the process begins with the most recent available free cash flow figure. From there, the trajectory of cash flows is determined by extrapolating this value across a defined timeframe. Companies with increasing free cash flow are projected to experience a gradual deceleration in growth. Conversely, those with shrinking free cash flow are modeled to have a declining contraction rate.
Forecasting Free Cash Flows
Free cash flow is a crucial metric in determining how much capital a business can generate after accounting for expenses required to maintain or expand its operations. For SCI, past performance in generating free cash flow helps shape the initial projections, with adjustments made to reflect anticipated slowdowns as the company matures.
When analyst inputs are not available, previous reported values serve as a baseline. The trend is smoothed out to avoid unrealistic surges or sharp declines. This method supports a more grounded projection and reflects operational realities in the years ahead.
Determining Terminal Value
After forecasting free cash flows for the first stage, a terminal value is calculated to account for all future cash flows beyond the initial projection period. This figure is then discounted to today's value using a rate that aligns with the company’s risk profile and capital structure.
The terminal value represents a significant portion of the overall intrinsic value and is based on a perpetuity growth formula. The assumption here is that beyond the explicit forecast period, SCI will grow at a modest, steady rate reflective of broader economic conditions and market maturity.
Intrinsic Value Estimation
Combining the present values of the initial forecasted cash flows and the terminal value yields the total intrinsic value. This figure provides a theoretical measure of what the stock might be worth based purely on the company's ability to generate future cash.
SCI's operations in a stable and essential sector, along with its regular dividend payments, add another dimension to its valuation profile. Dividend contributions are accounted for in the cash flow calculations where applicable.
This valuation model offers a structured approach (NYSE:SCI) to gauge the long-term cash-generating capacity of Service Corporation International. By using a systematic method and adjusting for growth changes over time, it helps provide clarity on the company's financial fundamentals.
