Using the 2 Stage Free Cash Flow to Equity, T&S CommunicationsLtd fair value estimate is CN¥27.57
T&S CommunicationsLtd is estimated to be 28% overvalued based on current share price of CN¥35.39
The CN¥47.72 analyst price target for 300570 is 73% more than our estimate of fair value
In this article we are going to estimate the intrinsic value of T&S Communications Co.,Ltd. (SZSE:300570) by projecting its future cash flows and then discounting them to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Believe it or not, it's not too difficult to follow, as you'll see from our example!
Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
The Calculation
We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. In the first stage we need to estimate the cash flows to the business over the next ten years. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last 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, so we discount the value of these future cash flows to their estimated value in today's dollars:
10-year free cash flow (FCF) estimate
2024
2025
2026
2027
2028
2029
2030
2031
2032
2033
Levered FCF (CN¥, Millions)
CN¥179.3m
CN¥223.6m
CN¥264.2m
CN¥300.1m
CN¥331.3m
CN¥358.2m
CN¥381.7m
CN¥402.6m
CN¥421.5m
CN¥439.0m
Growth Rate Estimate Source
Est @ 34.05%
Est @ 24.70%
Est @ 18.16%
Est @ 13.58%
Est @ 10.38%
Est @ 8.13%
Est @ 6.56%
Est @ 5.46%
Est @ 4.70%
Est @ 4.16%
Present Value (CN¥, Millions) Discounted @ 8.1%
CN¥166
CN¥192
CN¥209
CN¥220
CN¥225
CN¥225
CN¥222
CN¥217
CN¥210
CN¥202
("Est" = FCF growth rate estimated by Simply Wall St) Present Value of 10-year Cash Flow (PVCF) = CN¥2.1b
After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (2.9%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 8.1%.
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CN¥8.8b÷ ( 1 + 8.1%)10= CN¥4.0b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CN¥6.1b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of CN¥35.4, the company appears slightly overvalued at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.
SZSE:300570 Discounted Cash Flow June 14th 2024
The Assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. If you don't agree with these result, have a go at the calculation yourself and play with the 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 T&S CommunicationsLtd 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 8.1%, which is based on a levered beta of 0.915. 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.
SWOT Analysis for T&S CommunicationsLtd
Strength
Currently debt free.
Dividends are covered by earnings and cash flows.
Dividend information for 300570.
Weakness
Earnings declined over the past year.
Dividend is low compared to the top 25% of dividend payers in the Communications market.
Expensive based on P/E ratio and estimated fair value.
What are analysts forecasting for 300570?
Opportunity
Annual earnings are forecast to grow faster than the Chinese market.
Threat
No apparent threats visible for 300570.
Looking Ahead:
Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. 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. If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. Can we work out why the company is trading at a premium to intrinsic value? For T&S CommunicationsLtd, we've put together three additional aspects you should consider:
Risks: Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with T&S CommunicationsLtd , and understanding these should be part of your investment process.
Future Earnings: How does 300570'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 Solid Businesses: 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!
PS. Simply Wall St updates its DCF calculation for every Chinese 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 editorial-team (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 long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com
