Estimating The Fair Value Of Shanghai Aladdin Biochemical Technology Co.,Ltd. (SHSE:688179)

Simply Wall St · 10/16 03:27

Key Insights

  • Shanghai Aladdin Biochemical TechnologyLtd's estimated fair value is CN¥14.44 based on 2 Stage Free Cash Flow to Equity
  • With CN¥12.77 share price, Shanghai Aladdin Biochemical TechnologyLtd appears to be trading close to its estimated fair value
  • Peers of Shanghai Aladdin Biochemical TechnologyLtd are currently trading on average at a 3,031% premium

In this article we are going to estimate the intrinsic value of Shanghai Aladdin Biochemical Technology Co.,Ltd. (SHSE:688179) by estimating the company's future cash flows and discounting them to their present value. Our analysis will employ 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.

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 Shanghai Aladdin Biochemical TechnologyLtd

Is Shanghai Aladdin Biochemical TechnologyLtd Fairly Valued?

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. In the first stage we need to estimate the cash flows to the business over the next ten years. 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.

Generally we assume that a dollar today is more valuable than a dollar in the future, 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 (CN¥, Millions) CN¥79.0m CN¥109.7m CN¥140.6m CN¥169.5m CN¥195.4m CN¥217.9m CN¥237.3m CN¥254.2m CN¥269.0m CN¥282.3m
Growth Rate Estimate Source Est @ 54.47% Est @ 38.99% Est @ 28.15% Est @ 20.56% Est @ 15.25% Est @ 11.53% Est @ 8.92% Est @ 7.10% Est @ 5.83% Est @ 4.93%
Present Value (CN¥, Millions) Discounted @ 7.8% CN¥73.2 CN¥94.4 CN¥112 CN¥126 CN¥134 CN¥139 CN¥140 CN¥140 CN¥137 CN¥133

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CN¥1.2b

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¥282m× (1 + 2.9%) ÷ (7.8%– 2.9%) = CN¥5.9b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CN¥5.9b÷ ( 1 + 7.8%)10= CN¥2.8b

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¥4.0b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of CN¥12.8, the company appears about fair value at a 12% discount to where the stock price trades currently. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.

dcf
SHSE:688179 Discounted Cash Flow October 16th 2024

Important Assumptions

Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual 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 Shanghai Aladdin Biochemical TechnologyLtd 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 0.992. 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 Shanghai Aladdin Biochemical TechnologyLtd

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 Chemicals market.
Opportunity
  • Annual revenue is forecast to grow faster than the Chinese market.
  • Current share price is below our estimate of fair value.
Threat
  • No apparent threats visible for 688179.

Moving On:

Although the valuation of a company is important, it is only one of many factors that you need to assess for a company. DCF models are not the be-all and end-all of investment valuation. 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 Shanghai Aladdin Biochemical TechnologyLtd, we've put together three fundamental aspects you should explore:

  1. Risks: For instance, we've identified 2 warning signs for Shanghai Aladdin Biochemical TechnologyLtd that you should be aware of.
  2. Future Earnings: How does 688179'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 SHSE every day. If you want to find the calculation for other stocks just search here.