Using the 2 Stage Free Cash Flow to Equity, StarPower Semiconductor fair value estimate is CN¥152
StarPower Semiconductor is estimated to be 47% undervalued based on current share price of CN¥80.97
Analyst price target for 603290 is CN¥128 which is 16% below our fair value estimate
Does the July share price for StarPower Semiconductor Ltd. (SHSE:603290) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by projecting its future cash flows and then discounting them to today's value. We will use the Discounted Cash Flow (DCF) model on this occasion. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.
Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
Crunching The Numbers
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. To begin with, we have to get estimates of the next ten years of cash flows. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or 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 need to discount the sum of these future cash flows to arrive at a present value estimate:
10-year free cash flow (FCF) estimate
2025
2026
2027
2028
2029
2030
2031
2032
2033
2034
Levered FCF (CN¥, Millions)
CN¥362.6m
CN¥869.5m
CN¥1.25b
CN¥1.95b
CN¥2.52b
CN¥3.05b
CN¥3.52b
CN¥3.94b
CN¥4.30b
CN¥4.61b
Growth Rate Estimate Source
Analyst x5
Analyst x4
Analyst x1
Analyst x1
Est @ 28.85%
Est @ 21.07%
Est @ 15.62%
Est @ 11.80%
Est @ 9.13%
Est @ 7.26%
Present Value (CN¥, Millions) Discounted @ 11%
CN¥328
CN¥712
CN¥929
CN¥1.3k
CN¥1.5k
CN¥1.7k
CN¥1.7k
CN¥1.8k
CN¥1.7k
CN¥1.7k
("Est" = FCF growth rate estimated by Simply Wall St) Present Value of 10-year Cash Flow (PVCF) = CN¥13b
The second stage is also known as Terminal Value, this is the business's cash flow after 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 11%.
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CN¥62b÷ ( 1 + 11%)10= CN¥23b
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¥36b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of CN¥81.0, the company appears quite good value at a 47% discount to where the stock price trades currently. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.
Important 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 StarPower Semiconductor 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 1.354. 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 StarPower Semiconductor
Strength
Debt is not viewed as a risk.
Balance sheet summary for 603290.
Weakness
Earnings declined over the past year.
Dividend is low compared to the top 25% of dividend payers in the Semiconductor market.
Opportunity
Annual revenue is forecast to grow faster than the Chinese market.
Good value based on P/E ratio and estimated fair value.
Threat
Paying a dividend but company has no free cash flows.
Annual earnings are forecast to grow slower than the Chinese market.
See 603290's dividend history.
Next Steps:
Whilst important, the DCF calculation is only one of many factors that you need to assess 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. What is the reason for the share price sitting below the intrinsic value? For StarPower Semiconductor, we've compiled three relevant factors you should further examine:
Risks: As an example, we've found 2 warning signs for StarPower Semiconductor (1 makes us a bit uncomfortable!) that you need to consider before investing here.
Future Earnings: How does 603290'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.
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