Estimating The Intrinsic Value Of Haw Par Corporation Limited (SGX:H02)

Key Insights

• The projected fair value for Haw Par is S$11.47 based on 2 Stage Free Cash Flow to Equity

• With S$9.54 share price, Haw Par appears to be trading close to its estimated fair value

• Peers of Haw Par are currently trading on average at a 308% premium

In this article we are going to estimate the intrinsic value of Haw Par Corporation Limited (SGX:H02) by estimating the company's future cash flows and discounting them to their present value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. 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.

See our latest analysis for Haw Par

Crunching The Numbers

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. To start off with, we need to estimate 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

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (SGD, Millions)	S$46.6m	S$61.3m	S$75.2m	S$87.5m	S$98.1m	S$107.0m	S$114.5m	S$120.8m	S$126.1m	S$130.8m
Growth Rate Estimate Source	Est @ 44.04%	Est @ 31.44%	Est @ 22.61%	Est @ 16.43%	Est @ 12.11%	Est @ 9.08%	Est @ 6.96%	Est @ 5.48%	Est @ 4.44%	Est @ 3.72%
Present Value (SGD, Millions) Discounted @ 6.0%	S$44.0	S$54.5	S$63.1	S$69.3	S$73.3	S$75.4	S$76.0	S$75.7	S$74.5	S$72.9

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = S$679m

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 2.0%. We discount the terminal cash flows to today's value at a cost of equity of 6.0%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = S$131m× (1 + 2.0%) ÷ (6.0%– 2.0%) = S$3.3b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= S$3.3b÷ ( 1 + 6.0%)¹⁰= S$1.9b

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 S$2.5b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of S$9.5, the company appears about fair value at a 17% 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.

SGX:H02 Discounted Cash Flow January 22nd 2024

The Assumptions

We would point out that the most important inputs to a discounted cash flow are the discount rate and of course the actual 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 Haw Par 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 6.0%, which is based on a levered beta of 0.800. 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 Haw Par

Strength

• Earnings growth over the past year exceeded the industry.

• Debt is not viewed as a risk.

Weakness

• Dividend is low compared to the top 25% of dividend payers in the Pharmaceuticals market.

Opportunity

• Current share price is below our estimate of fair value.

• Lack of analyst coverage makes it difficult to determine H02's earnings prospects.

Threat

• Dividends are not covered by cash flow.

Next Steps:

Whilst important, the DCF calculation shouldn't be the only metric you look at when researching a company. DCF models are not the be-all and end-all of investment valuation. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Haw Par, we've compiled three essential elements you should assess:

1. Risks: For example, we've discovered 2 warning signs for Haw Par (1 is a bit unpleasant!) that you should be aware of before investing here.

2. 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!

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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the SGX every day. If you want to find the calculation for other stocks 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.