Today, we’ll value Hologic (HOLX) using a discounted cash flow model. HOLX develops, manufactures, and supplies diagnostic systems and assays, medical imaging systems, and surgical products focusing on women’s health with $3.8B in sales in 2020. It also received approval for a SARS CoV-2 molecular test last year. Despite earnings headwinds in the next few years, HOLX seems undervalued with 26% revenue growth expected in 2021 and below industry-average forward P/E of 14.91, P/S of 4.23, and P/CF of about 11. While HOLX it’s seen increased insider selling over the past year, it still has a healthy level of insider holdings (0.6%). Interestingly, HOLX has gone on a buying spree, announcing acquisitions of molecular diagnostics company Diagencode biopsy and localization tech company Somatex and completing its acquisition of molecular oncology test provider Biotheranostics in 2021 alone.
Let’s value HOLX with a simple 2-stage cash flow model. We’ll use AlphaWave’s API to grab the financials and follow along AlphaWave’s valuation example where they’ve laid out a 2-stage valuation model. We’ll calculate free cash flow to the firm (FCFF), use the FCFF CAGR for the past few years to forecast FCFF for the next 5 years (stage 1), and set an expected constant growth rate in perpetuity thereafter (stage 2).
We’ll then discount FCFF at the weighted average cost of capital (WACC). To arrive at WACC, we’ll first calculate required return on equity (ROE) using the risk-free rate (10 year Treasury yield), levered beta, and equity risk premium. We’ll then calculate required required return on debt (ROD) using interest expense and total debt. Lastly we’ll incorporate HOLX’s capital structure (mix of equity and debt) to calculate WACC (discount rate).
Finally, we’ll value HOLX share price by discounting FCFF for the first five years (stage 1) and adding the present value of the terminal value at year 6 (stage 2). Using the number of outstanding shares, let’s calculate the price per share from our model and compare it to the actual price.
Our model price of $117 is significantly higher the actual price of $74, suggesting HOLX is significantly undervalued. We should keep in mind that the valuation is sensitive to WACC and our growth rate assumptions. Future areas to explore is to test the sensitivity of the valuation against different expected growth rates, applying analyst free cash flow forecasts for the next several years for stage 1 and using a 3-stage model with a gradual decrease in growth rate before a perpetual growth rate in stage 3.
