Today we will run through one way of estimating the intrinsic value of TakeTwo Interactive Software, Inc. (NASDAQ:TTWO) by taking the forecast future cash flows of the company and discounting them back to today’s value. Our analysis will employ the Discounted Cash Flow (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward.
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.
View our latest analysis for TakeTwo Interactive Software
Crunching The Numbers
We are going to use a twostage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second ‘steady growth’ period. In the first stage we need to estimate the cash flows to the business over the next ten years. 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, and so the sum of these future cash flows is then discounted to today’s value:
10year free cash flow (FCF) estimate
2023 
2024 
2025 
2026 
2027 
2028 
2029 
2030 
2031 
2032 

Levered FCF ($, Millions) 
US$627.8m 
US$1.18b 
US$1.77b 
US$1.75b 
US$1.92b 
US$2.04b 
US$2.15b 
US$2.24b 
US$2.32b 
US$2.39b 
Growth Rate Estimate Source 
Analyst x10 
Analyst x11 
Analyst x7 
Analyst x3 
Analyst x2 
Est @ 6.44% 
Est @ 5.1% 
Est @ 4.17% 
Est @ 3.51% 
Est @ 3.05% 
Present Value ($, Millions) Discounted @ 6.9% 
US$587 
US$1.0k 
US$1.4k 
US$1.3k 
US$1.4k 
US$1.4k 
US$1.3k 
US$1.3k 
US$1.3k 
US$1.2k 
(“Est” = FCF growth rate estimated by Simply Wall St)
Present Value of 10year Cash Flow (PVCF) = US$12b
After calculating the present value of future cash flows in the initial 10year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5year average of the 10year government bond yield of 2.0%. We discount the terminal cash flows to today’s value at a cost of equity of 6.9%.
Terminal Value (TV)= FCF_{2032} × (1 + g) (r – g) = US$2.4b× (1 + 2.0%) (6.9%– 2.0%) = US$50b
Present Value of Terminal Value (PVTV)= TV / (1 + r)^{10}= US$50b÷ ( 1 + 6.9%)^{10}= US$26b
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 US$38b. 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$124, the company appears quite good value at a 45% discount to where the stock price trades currently. Valuations are imprecise instruments though, rather like a telescope – move a few degrees and end up in a different galaxy. Do keep this in mind.
Important 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. Part of investing is coming up with your own evaluation of a company’s future performance, so try the calculation yourself and check your own 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 TakeTwo Interactive Software 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 6.9%, which is based on a levered beta of 1.047. 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.
Next Steps:
Although the valuation of a company is important, it 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. 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. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. What is the reason for the share price sitting below the intrinsic value? For TakeTwo Interactive Software, there are three fundamental items you should consider:

Risks: For instance, we’ve identified 3 warning signs for TakeTwo Interactive Software that you should be aware of.

Future Earnings: How does TTWO’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 allrounder? 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 American 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 the editorialteam(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 longterm focused analysis driven by fundamental data. Note that our analysis may not factor in the latest pricesensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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