Estimating The Fair Value Of Perdana Petroleum Berhad (KLSE:PERDANA)

Simply Wall St

Sun, Aug 6, 2023, 6:08 PM 6 min read

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Perdana Petroleum Berhad (KLSE:PERDANA) as an investment opportunity 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. There's really not all that much to it, even though it might appear quite complex.

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. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.

See our latest analysis for Perdana Petroleum Berhad

Step By Step Through 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. 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 discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (MYR, Millions)	RM55.5m	RM58.2m	RM60.8m	RM63.4m	RM65.9m	RM68.5m	RM71.1m	RM73.7m	RM76.5m	RM79.3m
Growth Rate Estimate Source	Est @ 5.47%	Est @ 4.90%	Est @ 4.50%	Est @ 4.22%	Est @ 4.03%	Est @ 3.89%	Est @ 3.79%	Est @ 3.73%	Est @ 3.68%	Est @ 3.65%
Present Value (MYR, Millions) Discounted @ 16%	RM48.0	RM43.6	RM39.4	RM35.5	RM32.0	RM28.7	RM25.8	RM23.2	RM20.8	RM18.6

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = RM316m

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 3.6%. We discount the terminal cash flows to today's value at a cost of equity of 16%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = RM79m× (1 + 3.6%) ÷ (16%– 3.6%) = RM684m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= RM684m÷ ( 1 + 16%)¹⁰= RM161m

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 RM476m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of RM0.2, the company appears about fair value at a 18% 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 — KLSE:PERDANA Discounted Cash Flow August 7th 2023

Important 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. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 Perdana Petroleum Berhad 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 16%, which is based on a levered beta of 1.499. 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 Perdana Petroleum Berhad

Strength

Debt is well covered by cash flow.

Weakness

Interest payments on debt are not well covered.

Opportunity

Current share price is below our estimate of fair value.

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

Threat

No apparent threats visible for PERDANA.

Moving On:

Although the valuation of a company is important, it 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 Perdana Petroleum Berhad, there are three pertinent elements you should look at:

Risks: For instance, we've identified 3 warning signs for Perdana Petroleum Berhad that you should be aware of.
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!
Other Environmentally-Friendly Companies: Concerned about the environment and think consumers will buy eco-friendly products more and more? Browse through our interactive list of companies that are thinking about a greener future to discover some stocks you may not have thought of!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the KLSE 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.