Calculation of the intrinsic value of Eversendai Corporation Berhad (KLSE:SENDAI)

Key insights

• The expected fair value for Eversendai Corporation Berhad is RM0.43 based on 2-stage free cash flow to equity

• Eversendai Corporation Berhad’s share price of RM0.50 indicates that it is trading at similar levels to the fair value estimate

• Compared to the industry average discount of -19.230%, Eversendai Corporation Berhad’s competitors appear to be trading at a higher premium to fair value.

Today we’ll do a simple walkthrough of a valuation method used to estimate the attractiveness of Eversendai Corporation Berhad (KLSE:SENDAI) as an investment opportunity by projecting its future cash flows and then discounting them to today’s value. This is done using the Discounted Cash Flow (DCF) model. Believe it or not, it’s not that difficult to follow, as you’ll see from our example!

We would caution that there are many ways to value a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. If you want to learn more about discounted cash flow, you can read the reasoning behind this calculation in detail in the Simply Wall St analysis model.

View our latest analysis for Eversendai Corporation Berhad

Crunching the numbers

We use what is known as a 2-stage model, which simply means that we have two different periods of growth rates for the company’s cash flows. Generally, the first stage is a higher growth period and the second stage is a lower growth period. To begin, we need to obtain estimates of the next ten years of cash flows. Since analyst estimates of free cash flow are not available, we have extrapolated the previous free cash flow (FCF) from the last reported value of the company. We assume that companies with shrinking FCF will slow their rate of shrinkage and that companies with growing FCF will see their growth rate slow over this period. We do this to reflect the fact that growth tends to slow more in the early years than in later years.

The story continues

In general, we assume that a dollar today is worth more than a dollar in the future. Therefore, we must discount the sum of these future cash flows to estimate the present value:

Free Cash Flow (FCF) Forecast for 10 Years

(“Est” = FCF growth rate estimated by Simply Wall St)
Present Value of 10-Year Cash Flow (PVCF) = RM243m

The second stage is also known as Terminal Value, which is the cash flow of the company after the first stage. 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 3.6%. We discount the terminal cash flows to present value at a cost of equity of 15%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = RM39m× (1 + 3.6%) ÷ (15%– 3.6%) = RM366m

Present value of terminal value (PVTV)= TV / (1 + r)¹⁰= RM366m÷ ( 1 + 15%)¹⁰= RM93m

The total value is the sum of the cash flows for the next ten years plus the terminal present value, resulting in the total equity value, which in this case is RM336m. In the final step, we divide the equity value by the number of shares outstanding. Relative to the current share price of RM0.5, the company appears to be around fair value at the time of writing. However, valuations are imprecise instruments, more like a telescope – move a few degrees and you’ll find yourself in a different galaxy. Keep this in mind.

The assumptions

We would like to emphasize that the most important inputs for a discounted cash flow are the discount rate and of course the actual cash flows. If you disagree with these results, try the calculation yourself and play with the assumptions. The DCF also does not take into account the potential cyclicality of an industry or the future capital requirements of a company, so it does not give a complete picture of a company’s potential performance. Since we consider Eversendai Corporation Berhad 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 into account debt. In this calculation, we have used 15%, which is based on a levered beta of 2,000. Beta is a measure of the volatility of a stock, compared to the market as a whole. We take our beta from the average sector beta of globally comparable companies, with a set limit between 0.8 and 2.0, which is a reasonable range for a stable company.

Looking forward:

While a company’s valuation is important, it shouldn’t be the only metric you look at when researching a company. The DCF model isn’t a perfect tool for valuing stocks. Instead, the best use of a DCF model is to test certain assumptions and theories to see if they would cause the company to be undervalued or overvalued. For example, a small adjustment to the terminal value growth rate could drastically change the overall outcome. For Eversendai Corporation Berhad, we’ve compiled three more factors that you should investigate further:

1. Risks: For example, we discovered 3 Warning Signs for Eversendai Corporation Berhad (2 don’t sit so well with us!) what you should be aware of before investing here.

2. Other solid companies: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered?

3. Other analyst top picks: Curious what analysts think? Check out our interactive list of analysts’ top stock picks to find out what they think has an attractive future!

PS. Simply Wall St updates its DCF calculation for each Malaysian stock every day, so if you want to find the intrinsic value of another stock, search here.

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This article from Simply Wall St is general in nature. We comment solely on historical data and analyst forecasts, using an objective methodology. Our articles are not intended as financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your objectives or financial situation. We aim to provide you with a long-term analysis driven by fundamental data. Please note that our analysis may not take into account the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in the shares mentioned.

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