The projected fair value for Baoxiniao Holding is CN¥5.53 based on 2 Stage Free Cash Flow to Equity
Current share price of CN¥4.62 suggests Baoxiniao Holding is potentially trading close to its fair value
The CN¥4.73 analyst price target for 002154 is 14% less than our estimate of fair value
Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Baoxiniao Holding Co., Ltd. (SZSE:002154) as an investment opportunity by taking the expected future cash flows and discounting them to today's value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.
We would caution that there are many ways of valuing 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, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.
Step By Step Through The Calculation
We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. To start off with, we need to estimate 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.
Generally we assume that a dollar today is more valuable than a dollar in the future, so we discount the value of these future cash flows to their estimated value in today's dollars:
10-year free cash flow (FCF) forecast
2025
2026
2027
2028
2029
2030
2031
2032
2033
2034
Levered FCF (CN¥, Millions)
CN¥388.0m
CN¥537.0m
CN¥527.2m
CN¥524.9m
CN¥527.7m
CN¥534.1m
CN¥543.1m
CN¥554.1m
CN¥566.6m
CN¥580.3m
Growth Rate Estimate Source
Analyst x1
Analyst x1
Est @ -1.83%
Est @ -0.44%
Est @ 0.53%
Est @ 1.21%
Est @ 1.69%
Est @ 2.02%
Est @ 2.26%
Est @ 2.42%
Present Value (CN¥, Millions) Discounted @ 8.5%
CN¥358
CN¥456
CN¥413
CN¥379
CN¥351
CN¥328
CN¥307
CN¥289
CN¥273
CN¥257
("Est" = FCF growth rate estimated by Simply Wall St) Present Value of 10-year Cash Flow (PVCF) = CN¥3.4b
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. 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 2.8%. We discount the terminal cash flows to today's value at a cost of equity of 8.5%.
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CN¥11b÷ ( 1 + 8.5%)10= CN¥4.7b
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¥8.1b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of CN¥4.6, the company appears about fair value at a 17% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.
The Assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Baoxiniao Holding 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 8.5%, which is based on a levered beta of 1.139. 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 Baoxiniao Holding
Strength
Debt is not viewed as a risk.
Dividends are covered by earnings and cash flows.
Dividend is in the top 25% of dividend payers in the market.
Dividend information for 002154.
Weakness
Earnings declined over the past year.
Opportunity
Annual earnings are forecast to grow for the next 3 years.
Good value based on P/E ratio and estimated fair value.
Threat
Annual earnings are forecast to grow slower than the Chinese market.
What else are analysts forecasting for 002154?
Next Steps:
Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Baoxiniao Holding, we've compiled three relevant items you should consider:
Risks: Every company has them, and we've spotted 1 warning sign for Baoxiniao Holding you should know about.
Future Earnings: How does 002154'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 High Quality Alternatives: Do you like a good all-rounder? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!
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.