The projected fair value for Guizhou Panjiang Refined CoalLtd is CN¥5.01 based on Dividend Discount Model
Guizhou Panjiang Refined CoalLtd's CN¥6.67 share price signals that it might be 33% overvalued
The CN¥7.00 analyst price target for 600395 is 40% more than our estimate of fair value
In this article we are going to estimate the intrinsic value of Guizhou Panjiang Refined Coal Co.,Ltd. (SHSE:600395) by taking the forecast future cash flows of the company and discounting them back to today's value. Our analysis will employ the Discounted Cash Flow (DCF) model. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.
Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.
The Model
We have to calculate the value of Guizhou Panjiang Refined CoalLtd slightly differently to other stocks because it is a oil and gas company. In this approach dividends per share (DPS) are used, as free cash flow is difficult to estimate and often not reported by analysts. This often underestimates the value of a stock, but it can still be good as a comparison to competitors. We use the Gordon Growth Model, which assumes dividend will grow into perpetuity at a rate that can be sustained. For a number of reasons a very conservative growth rate is used that cannot exceed that of a company's Gross Domestic Product (GDP). In this case we used the 5-year average of the 10-year government bond yield (2.9%). The expected dividend per share is then discounted to today's value at a cost of equity of 11%. Compared to the current share price of CN¥6.7, the company appears reasonably expensive at the time of writing. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.
Value Per Share = Expected Dividend Per Share / (Discount Rate - Perpetual Growth Rate)
= CN¥0.4 / (11% – 2.9%)
= CN¥5.0
SHSE:600395 Discounted Cash Flow May 22nd 2024
The Assumptions
Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 Guizhou Panjiang Refined CoalLtd 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 11%, which is based on a levered beta of 1.358. 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 Guizhou Panjiang Refined CoalLtd
Strength
Debt is well covered by earnings.
Dividend is in the top 25% of dividend payers in the market.
Dividend information for 600395.
Weakness
Earnings declined over the past year.
Expensive based on P/E ratio and estimated fair value.
Opportunity
Annual earnings are forecast to grow faster than the Chinese market.
Threat
Debt is not well covered by operating cash flow.
Dividends are not covered by earnings.
Revenue is forecast to grow slower than 20% per year.
Is 600395 well equipped to handle threats?
Next Steps:
Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. It's not possible to obtain a foolproof valuation with a DCF model. 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. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. Can we work out why the company is trading at a premium to intrinsic value? For Guizhou Panjiang Refined CoalLtd, we've put together three essential factors you should further research:
Risks: Case in point, we've spotted 4 warning signs for Guizhou Panjiang Refined CoalLtd you should be aware of, and 3 of them are concerning.
Future Earnings: How does 600395'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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the SHSE every day. If you want to find the calculation for other stocks 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.
