Nasdaq, Inc. (NDAQ) reported a 19.6% gain in Q1 free cash flow (FCF) yesterday and decided to hike its dividend by 13%. This gives NDAQ stock a 1.44% yield, higher than its average yield, implying it's about 20% undervalued. 

Based on our review of its FCF and FCF margins, as well as its historical dividend yield and forward price/earnings (P/E) metrics, NDAQ could be worth at least 20% more at $90 per share. This article will discuss its undervaluation.

NDAQ stock is at $75.09 in midday trading on Friday, April 25. That is still well off its recent high of $83.76 on Feb. 6. 

Strong Free Cash Flow Growth

On April 24, Nasdaq, Inc. reported that its revenue rose 11% YoY and +12.5% on an adjusted basis (after excluding FX and one-time impacts as well as including new acquisitions).

Moreover, based on a recurring revenue basis, its revenue was up 9% on an “organic” basis. 

However, more importantly from a shareholder standpoint, its Q1 free cash flow (FCF) rose to $674 million, up +27% from $530 million a year ago. This was also up over 11% on a trailing 12-month basis (TTM) over 2024, based on page 26 of its earnings presentation:

  $1,746 million TTM FCF / $1,576m (2024) FCF = 1.1079 =+10.8%

  $1,808 m TTM adj FCF ex-MMA / $1,625m FCF 2024 adj = 1.113 = +11.3%

High FCF Margins Imply Higher Valuation

Moreover, its $674 million in Q1 FCF represented almost 55% of its $1.237 billion in revenue for the quarter. That is a very high FCF margin and it implies that NDAQ could be undervalued. Here's why.

For example, analysts now project Nasdaq will make $5.04 billion in revenue this year and $5.38 billion in 2026. That means its next 12 months (NTM) run rate revenue is $5.21 billion.

So, applying a 55% FCF margin against this NTM revenue forecast will give us a FCF forecast:

  $5.21b NTM revenue x 0.545 = $2.83945 = $2.84 billion FCF NTM

That is 62.6% higher than its TTM FCF of $1.746 billion. In other words, if the stock's FCF yield valuation stays level, NDAQ could be worth almost 63% more over the next year.

That puts its valuation at $122 per share (i.e., $75.09 x 1.626).

Dividend Hike and Dividend Yield Target

In addition, given its huge gain in free cash flow, Nasdaq's board decided to hike its dividend per share (DPS) by 13% to $1.08 on an annualized basis. After all, it's revenue, and FCF were up significantly, and the company expects that it will continue to make high FCF margins.

So, at today's price, NDAQ stock has a forward 1.438% dividend yield (i.e., $1.08/$75.09). But this is higher than its historical yield, implying that the stock has good upside.

For example, Morningstar reports that NDAQ's average 5-year yield has been 1.33%, and over the trailing 12-month (TTM) period, it was 1.28%. Similarly, Yahoo! Finance says the average 5-year yield has been 1.35%, and its trailing TTM yield has been 1.28% as well.

So, these stats imply that, if NDAQ were to rise to an average yield of about 1.31%, the stock could be worth about 11% more:

  $1.08 DPS/ 0.013 = $83.08 DY target

  $83.08 / $75.09 = 1.1064 = +10.6% upside

P/E Target Price

A similar target valuation could be done with Nasdaq's forward earnings multiple. For example, analysts expect $3.19 in earnings per share (EPS) this year and $3.55 next year, or $3.37 EPS on a run-rate basis.

Using Seeking Alpha's average 5-year forward P/E multiple of 26.97x, the stock is worth $90.89, or a +21% upside. And Morningstar's average forward P/E multiple is 22.24x, implying a $74.95 price target. The average of these two earnings multiple-based targets is $82.92, or +10.4 upside.

Summary of Valuation Methods

As a result, using a forward FCF metric, NDAQ is worth $122 per share, but using a dividend yield metric, it's worth less at $83.08. Similarly, using a forward P/E metric, its worth a similar amount of $82.92.

The bottom line is that on a mean basis, the price target is $96 and the median is $83. So, we could expect NDAQ to rise somewhere in that range, say $90 or about 20% higher over the next year or so.

However, there is no guarantee that NDAQ stock will reach that price target. One way to ensure a good buy-in target is to sell short out-of-the-money puts in nearby expiry periods.

Shorting OTM Puts

For example, look at the May 16 expiration period. It shows that the $72.50 put option contract has a midpoint premium of $0.85 per contract.

That means a short-seller of these +3.0% out-of-the-money (OTM) puts (i.e., below the trading price) can make an immediate yield of 1.17% (i.e., 0.85/$72.50).

It also helps new investors in NDAQ to set a lower buy-in target price, in case the stock falls to this strike price over the next three weeks. Note also that there is a low delta ratio, implying just a 27.5% chance that the stock will fall to $72.50, based on its past historical volatility patterns.

Therefore, some investors who want to potentially buy-in at just a slightly lower price could short the $75.00 strike price. The midpoint premium is much higher at $1.75 per contract, giving these short-sellers a 2.33% immediate yield (i.e., $1.75/$75.00).

Moreover, even if NDAQ falls to $75.00 by May 16 or lower, the investor would have a lower breakeven price (i.e., $75.00 - $1.75 = $73.25). That is still 2.76% below today's price after including the income received from this at-the-money (ATM) short sale play.

The bottom line, is that given Nasdaq's potential upside, this might be a good way to buy into this undervalued stock.

On the date of publication, Mark R. Hake, CFA did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.