Advanced Energy Solution Holding Co., Ltd. (TWSE:6781) Shares Could Be 35% Below Their Intrinsic Value Estimate

Key Insights

• The projected fair value for Advanced Energy Solution Holding is NT$778 based on 2 Stage Free Cash Flow to Equity
• Advanced Energy Solution Holding is estimated to be 35% undervalued based on current share price of NT$508
• The NT$643 analyst price target for 6781 is 17% less than our estimate of fair value

Today we will run through one way of estimating the intrinsic value of Advanced Energy Solution Holding Co., Ltd. (TWSE:6781) by projecting its future cash flows and then discounting them to today's value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!

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. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

Check out our latest analysis for Advanced Energy Solution Holding

The Calculation

We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. 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) forecast

	2025	2026	2027	2028	2029	2030	2031	2032	2033	2034
Levered FCF (NT$, Millions)	NT$2.02b	NT$2.47b	NT$2.86b	NT$3.18b	NT$3.44b	NT$3.65b	NT$3.82b	NT$3.95b	NT$4.06b	NT$4.15b
Growth Rate Estimate Source	Analyst x2	Est @ 22.04%	Est @ 15.73%	Est @ 11.32%	Est @ 8.23%	Est @ 6.07%	Est @ 4.55%	Est @ 3.49%	Est @ 2.75%	Est @ 2.23%
Present Value (NT$, Millions) Discounted @ 6.3%	NT$1.9k	NT$2.2k	NT$2.4k	NT$2.5k	NT$2.5k	NT$2.5k	NT$2.5k	NT$2.4k	NT$2.3k	NT$2.2k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = NT$24b

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 1.0%. We discount the terminal cash flows to today's value at a cost of equity of 6.3%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = NT$4.1b× (1 + 1.0%) ÷ (6.3%– 1.0%) = NT$79b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= NT$79b÷ ( 1 + 6.3%)¹⁰= NT$43b

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 NT$66b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of NT$508, the company appears quite undervalued at a 35% 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.

The Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 Advanced Energy Solution 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 6.3%, which is based on a levered beta of 1.092. 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 Advanced Energy Solution Holding

Next Steps:

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. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/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 discount to intrinsic value? For Advanced Energy Solution Holding, we've put together three additional factors you should further examine:

1. Risks: As an example, we've found 2 warning signs for Advanced Energy Solution Holding (1 can't be ignored!) that you need to consider before investing here.
2. Future Earnings: How does 6781'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.
3. 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 Taiwanese stock every day, so if you want to find the intrinsic value of any other stock just search here.

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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.