A Look At The Fair Value Of Nantong Guosheng Intelligence Technology Group Co., Ltd. (SHSE:688558)

Simply Wall St · 09/27 23:04

Key Insights

  • The projected fair value for Nantong Guosheng Intelligence Technology Group is CN¥17.79 based on 2 Stage Free Cash Flow to Equity
  • Nantong Guosheng Intelligence Technology Group's CN¥17.60 share price indicates it is trading at similar levels as its fair value estimate
  • Nantong Guosheng Intelligence Technology Group's peers are currently trading at a premium of 466% on average

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Nantong Guosheng Intelligence Technology Group Co., Ltd. (SHSE:688558) as an investment opportunity 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. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

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 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.

See our latest analysis for Nantong Guosheng Intelligence Technology Group

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 begin with, we have to get estimates of the next ten years of cash flows. 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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

2025 2026 2027 2028 2029 2030 2031 2032 2033 2034
Levered FCF (CN¥, Millions) CN¥114.2m CN¥117.7m CN¥121.2m CN¥124.8m CN¥128.5m CN¥132.2m CN¥136.1m CN¥140.0m CN¥144.0m CN¥148.1m
Growth Rate Estimate Source Est @ 3.19% Est @ 3.09% Est @ 3.02% Est @ 2.97% Est @ 2.93% Est @ 2.91% Est @ 2.89% Est @ 2.88% Est @ 2.87% Est @ 2.86%
Present Value (CN¥, Millions) Discounted @ 7.8% CN¥106 CN¥101 CN¥96.8 CN¥92.5 CN¥88.4 CN¥84.4 CN¥80.5 CN¥76.9 CN¥73.4 CN¥70.0

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CN¥870m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 2.9%. We discount the terminal cash flows to today's value at a cost of equity of 7.8%.

Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = CN¥148m× (1 + 2.9%) ÷ (7.8%– 2.9%) = CN¥3.1b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CN¥3.1b÷ ( 1 + 7.8%)10= CN¥1.5b

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is CN¥2.3b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of CN¥17.6, the company appears about fair value at a 1.1% 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.

dcf
SHSE:688558 Discounted Cash Flow September 27th 2024

Important 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 Nantong Guosheng Intelligence Technology Group 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 7.8%, which is based on a levered beta of 0.990. 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 Nantong Guosheng Intelligence Technology Group

Strength
  • Currently debt free.
  • Dividends are covered by earnings and cash flows.
  • Dividend is in the top 25% of dividend payers in the market.
Weakness
  • Earnings declined over the past year.
Opportunity
  • Current share price is below our estimate of fair value.
  • Lack of analyst coverage makes it difficult to determine 688558's earnings prospects.
Threat
  • No apparent threats visible for 688558.

Looking Ahead:

Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Nantong Guosheng Intelligence Technology Group, we've compiled three additional items you should look at:

  1. Risks: Be aware that Nantong Guosheng Intelligence Technology Group is showing 1 warning sign in our investment analysis , you should know about...
  2. 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!
  3. Other Top Analyst Picks: Interested to see what the analysts are thinking? Take a look at our interactive list of analysts' top stock picks to find out what they feel might have an attractive future outlook!

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.