Estimating the fair value of Kura Oncology, Inc. (NASDAQ:KURA)

Key findings

• The estimated fair value of Kura Oncology is $24.50 based on 2-step free cash flow to equity
• Kura Oncology’s share price of $21.95 suggests that the price is at a similar level to the estimated fair value
• The analyst price target for KURA is $30.42, 24% above our fair value estimate.

Today we will go through one way to estimate the intrinsic value of Kura Oncology, Inc. (NASDAQ:KURA) by estimating the company’s future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. Models like these may seem incomprehensible to a layperson, but they are relatively easy to follow.

However, keep in mind that there are many ways to estimate the value of a company, and a DCF is just one of them. For those who enjoy stock analysis, the analysis model presented here by Simply Wall St might be of interest.

Check out our latest analysis for Kura Oncology

Is Kura Oncology fairly valued?

We use the two-stage growth model, which simply means that we consider two stages of the company’s growth. In the early stage, the company might have a higher growth rate, and in the second stage, a stable growth rate is usually assumed. In the first stage, we need to estimate the company’s cash flows for the next ten years. Where possible, we use analyst estimates, but when these are not available, we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume that companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will slow their growth rate, over this period. We do this to take into account that growth tends to slow down more in the early years than in later years.

In general, we assume that a dollar today is worth more than a dollar in the future. Therefore, the sum of these future cash flows is discounted to today’s value:

Estimation of free cash flow (FCF) over 10 years

(“Est” = FCF growth rate, estimated by Simply Wall St)
Present value of 10-year cash flow (PVCF) = -29 million US dollars

We now need to calculate the terminal value that takes into account all future cash flows after this ten-year period. The Gordon growth formula is used to calculate the terminal value at a future annual growth rate equal to the 5-year average of the 10-year Treasury yield of 2.4%. We discount the terminal cash flows to today’s value at a cost of equity of 6.3%.

Final value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = 133 million US dollars × (1 + 2.4%) ÷ (6.3% – 2.4%) = 3.5 billion US dollars

Present value of terminal value (PVTV)= TV / (1 + r)¹⁰= 3.5 billion US dollars ÷ (1 + 6.3%)¹⁰= 1.9 billion US dollars

The total value or equity value is then the sum of the present value of future cash flows, which in this case is $1.9 billion. In the final step, we divide the equity value by the number of shares outstanding. Relative to the current share price of $22.00, the company appears to be roughly fairly valued at a 10% discount to the current share price. However, keep in mind that this is only an approximate valuation and as with any complex formula, where there’s garbage in, there’s garbage out.

The assumptions

The above calculation relies heavily on two assumptions. The first is the discount rate and the other is the cash flows. You don’t have to agree with these inputs, I recommend repeating the calculations yourself and playing with them. The DCF also doesn’t take into account the possible cyclicality of an industry or a company’s future capital needs and therefore doesn’t provide a complete picture of a company’s potential performance. Since we consider Kura Oncology 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 takes debt into account. In this calculation, we used 6.3% which is based on a leveraged beta of 0.851. Beta is a measure of a stock’s volatility relative to the overall market. We get our beta from the industry average beta of globally comparable companies with an imposed limit of between 0.8 and 2.0 which is a reasonable range for a stable company.

SWOT analysis for Kura Oncology

Go on:

While a company’s valuation is important, it is only one of many factors you need to evaluate a company. It is not possible to get a foolproof valuation using a DCF model. It should be viewed more as a guide to “what assumptions need to hold for this stock to be under/overvalued.” For example, making a small adjustment to the terminal value growth rate can dramatically change the overall result. For Kura Oncology, there are three key factors you should examine:

1. Risks: For example, we found 3 warning signs for Kura Oncology (1 we don’t like so much) that you should be aware of.
2. Future income: How is KURA’s growth rate compared to competitors and the overall market? Learn more about analyst consensus numbers for the coming years by using our free chart of analyst growth expectations.
3. Other solid companies: Low debt, high returns on equity, and good past performance are the foundation of a strong company. Check out our interactive list of stocks with solid business fundamentals to see if there are any other companies you may not have considered!

PS. Simply Wall St updates its DCF calculation for every American stock daily, so if you want to find out the intrinsic value of another stock, just search here.

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This Simply Wall St article is of a general nature. We comment solely on the basis of historical data and analyst forecasts, using an unbiased methodology. Our articles do not constitute financial advice. It is not a recommendation to buy or sell any stock and does not take into account your objectives or financial situation. Our goal is to provide you with long-term analysis based on fundamental data. Note that our analysis may not take into account the latest price-sensitive company announcements or qualitative materials. Simply Wall St does not hold any of the stocks mentioned.

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