Is Marco Polo Marine Ltd. (SGX:5LY) Trading At A 39% Discount?

Key Insights

• The projected fair value for Marco Polo Marine is S$0.083 based on 2 Stage Free Cash Flow to Equity

• Marco Polo Marine is estimated to be 39% undervalued based on current share price of S$0.05

• Marco Polo Marine's peers seem to be trading at a higher discount to fair value based onthe industry average of 72%

In this article we are going to estimate the intrinsic value of Marco Polo Marine Ltd. (SGX:5LY) by taking the expected future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. Believe it or not, it's not too difficult to follow, as you'll see from our example!

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 Marco Polo Marine

Crunching The Numbers

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.

Generally we assume that a dollar today is more valuable than a dollar in the future, 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

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (SGD, Millions)	S$17.4m	S$16.4m	S$15.8m	S$15.4m	S$15.3m	S$15.3m	S$15.4m	S$15.6m	S$15.8m	S$16.0m
Growth Rate Estimate Source	Est @ -9.75%	Est @ -6.22%	Est @ -3.75%	Est @ -2.02%	Est @ -0.81%	Est @ 0.04%	Est @ 0.64%	Est @ 1.05%	Est @ 1.34%	Est @ 1.55%
Present Value (SGD, Millions) Discounted @ 6.5%	S$16.4	S$14.4	S$13.0	S$12.0	S$11.2	S$10.5	S$9.9	S$9.4	S$9.0	S$8.6

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = S$114m

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. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (2.0%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 6.5%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = S$16m× (1 + 2.0%) ÷ (6.5%– 2.0%) = S$366m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= S$366m÷ ( 1 + 6.5%)¹⁰= S$195m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is S$310m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of S$0.05, the company appears quite good value at a 39% 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.

SGX:5LY Discounted Cash Flow January 8th 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. 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 Marco Polo Marine 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 6.5%, which is based on a levered beta of 0.893. 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 Marco Polo Marine

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 Shipping market.

• Shareholders have been diluted in the past year.

Opportunity

• Annual earnings are forecast to grow faster than the Singaporean market.

• Good value based on P/E ratio and estimated fair value.

Threat

• No apparent threats visible for 5LY.

Next Steps:

Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won't be the sole piece of analysis you scrutinize for a company. It's not possible to obtain a foolproof valuation with a DCF model. 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 example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. Can we work out why the company is trading at a discount to intrinsic value? For Marco Polo Marine, there are three fundamental items you should further examine:

1. Risks: As an example, we've found 1 warning sign for Marco Polo Marine that you need to consider before investing here.

2. Future Earnings: How does 5LY'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. 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.