Shenzhen S.C New Energy Technology Corporation (SZSE:300724) Shares Could Be 49% Below Their Intrinsic Value Estimate

Simply Wall St · 10/14 23:20

Key Insights

Today we will run through one way of estimating the intrinsic value of Shenzhen S.C New Energy Technology Corporation (SZSE:300724) by estimating the company's future cash flows and discounting them to their present value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Believe it or not, it's not too difficult to follow, as you'll see from our example!

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

Check out our latest analysis for Shenzhen S.C New Energy Technology

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. In the first stage we need to estimate the cash flows to the business over the next ten years. 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 discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) estimate

2025 2026 2027 2028 2029 2030 2031 2032 2033 2034
Levered FCF (CN¥, Millions) CN¥1.28b CN¥2.51b CN¥2.81b CN¥3.07b CN¥3.29b CN¥3.49b CN¥3.66b CN¥3.82b CN¥3.97b CN¥4.12b
Growth Rate Estimate Source Analyst x2 Analyst x3 Est @ 11.96% Est @ 9.23% Est @ 7.31% Est @ 5.97% Est @ 5.04% Est @ 4.38% Est @ 3.92% Est @ 3.60%
Present Value (CN¥, Millions) Discounted @ 9.5% CN¥1.2k CN¥2.1k CN¥2.1k CN¥2.1k CN¥2.1k CN¥2.0k CN¥1.9k CN¥1.9k CN¥1.8k CN¥1.7k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CN¥19b

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 9.5%.

Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = CN¥4.1b× (1 + 2.9%) ÷ (9.5%– 2.9%) = CN¥64b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CN¥64b÷ ( 1 + 9.5%)10= CN¥26b

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¥45b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of CN¥65.4, the company appears quite good value at a 49% 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
SZSE:300724 Discounted Cash Flow October 14th 2024

The 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 Shenzhen S.C New Energy Technology 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 9.5%, which is based on a levered beta of 1.327. 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 Shenzhen S.C New Energy Technology

Strength
  • Earnings growth over the past year exceeded the industry.
  • Debt is not viewed as a risk.
  • Dividends are covered by earnings and cash flows.
Weakness
  • 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
  • Annual earnings are forecast to grow slower than the Chinese market.

Looking Ahead:

Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn't be the only metric you look at when researching 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. Why is the intrinsic value higher than the current share price? For Shenzhen S.C New Energy Technology, we've compiled three further items you should further research:

  1. Risks: Case in point, we've spotted 3 warning signs for Shenzhen S.C New Energy Technology you should be aware of, and 2 of them are a bit concerning.
  2. Future Earnings: How does 300724'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 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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the SZSE every day. If you want to find the calculation for other stocks just search here.