Is There An Opportunity With adidas AG's (ETR:ADS) 36% Undervaluation?

Yahoo

05-02-2025

The projected fair value for adidas is €398 based on 2 Stage Free Cash Flow to Equity
adidas' €254 share price signals that it might be 36% undervalued
Our fair value estimate is 52% higher than adidas' analyst price target of €262
In this article we are going to estimate the intrinsic value of adidas AG (ETR:ADS) by projecting its future cash flows and then discounting them to today's value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. It may sound complicated, but actually it is quite simple!
We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
View our latest analysis for adidas
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 start off with, we need to estimate 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:
2025
2026
2027
2028
2029
2030
2031
2032
2033
2034
Levered FCF (€, Millions)
€1.69b
€2.32b
€2.55b
€2.89b
€3.22b
€3.44b
€3.62b
€3.77b
€3.88b
€3.98b
Growth Rate Estimate Source
Analyst x7
Analyst x6
Analyst x1
Analyst x1
Analyst x1
Est @ 7.10%
Est @ 5.26%
Est @ 3.97%
Est @ 3.07%
Est @ 2.44%
Present Value (€, Millions) Discounted @ 5.7%
€1.6k
€2.1k
€2.2k
€2.3k
€2.4k
€2.5k
€2.5k
€2.4k
€2.4k
€2.3k
("Est" = FCF growth rate estimated by Simply Wall St)Present Value of 10-year Cash Flow (PVCF) = €23b
We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 1.0%. We discount the terminal cash flows to today's value at a cost of equity of 5.7%.
Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = €4.0b× (1 + 1.0%) ÷ (5.7%– 1.0%) = €85b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €85b÷ ( 1 + 5.7%)10= €48b
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 €71b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of €254, the company appears quite good value at a 36% 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.
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. 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 adidas 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 5.7%, which is based on a levered beta of 1.154. 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.
Strength
Debt is not viewed as a risk.
Weakness
Dividend is low compared to the top 25% of dividend payers in the Luxury market.
Opportunity
Annual earnings are forecast to grow faster than the German market.
Trading below our estimate of fair value by more than 20%.
Threat
Revenue is forecast to grow slower than 20% per year.
Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. DCF models are not the be-all and end-all of investment valuation. 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. Why is the intrinsic value higher than the current share price? For adidas, we've put together three fundamental elements you should look at:
Financial Health: Does ADS have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
Future Earnings: How does ADS'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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the XTRA every day. If you want to find the calculation for other stocks 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.