Guangzhou Automobile Group Co Ltd (HKG:2238) Is Trading At A 43.18% Discount

Simply Wall St.

Mon, Nov 26, 2018, 5:03 PM

In this article I am going to calculate the intrinsic value of Guangzhou Automobile Group Co Ltd (HKG:2238) by taking the foreast future cash flows of the company and discounting them back to today’s value. I will be using the discounted cash flows (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward. If you want to learn more about discounted cash flow, the basis for my calcs can be read in detail in the Simply Wall St analysis model. If you are reading this and its not November 2018 then I highly recommend you check out the latest calculation for Guangzhou Automobile Group by following the link below.

Check out our latest analysis for Guangzhou Automobile Group

The calculation

I’m 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 perpetual stable growth rate. To begin with we have to get estimates of the next five years of cash flows. For this I used the consensus of the analysts covering the stock, as you can see below. I then discount the sum of these cash flows to arrive at a present value estimate.

5-year cash flow estimate

	2019	2020	2021	2022	2023
Levered FCF (CN¥, Millions)	CN¥-519.84	CN¥8.56k	CN¥10.10k	CN¥11.82k	CN¥13.71k
Source	Analyst x1	Analyst x2	Est @ 18%, capped from 32.41%	Est @ 17%, capped from 32.41%	Est @ 16%, capped from 32.41%
Present Value Discounted @ 10.89%	CN¥-468.81	CN¥6.96k	CN¥7.41k	CN¥7.82k	CN¥8.18k

Present Value of 5-year Cash Flow (PVCF)= CN¥30b

After calculating the present value of future cash flows in the intial 5-year period we need to calculate the Terminal Value, which accounts for all the future cash flows beyond the first stage. The Gordon Growth formula is used to calculate Terminal Value at an annual growth rate equal to the 10-year government bond rate of 2.2%. We discount this to today’s value at a cost of equity of 10.9%.

Terminal Value (TV) = FCF₂₀₂₂ × (1 + g) ÷ (r – g) = CN¥14b × (1 + 2.2%) ÷ (10.9% – 2.2%) = CN¥161b

Present Value of Terminal Value (PVTV) = TV / (1 + r)⁵ = CN¥161b ÷ ( 1 + 10.9%)⁵ = CN¥96b

The total value is the sum of cash flows for the next five years and the discounted terminal value, which results in the Total Equity Value, which in this case is CN¥126b. To get the intrinsic value per share, we divide this by the total number of shares outstanding, or the equivalent number if this is a depositary receipt or ADR. This results in an intrinsic value of HK$13.88. Relative to the current share price of HK$7.89, the stock is quite good value at a 43% discount to what it is available for right now.

SEHK:2238 Intrinsic Value Export November 27th 18

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 my result, have a go at the calculation yourself and play with the assumptions. Because we are looking at Guangzhou Automobile Group as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 10.9%, which is based on a levered beta of 1.114. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.

Next Steps:

Whilst important, DCF calculation shouldn’t be the only metric you look at when researching a company. What is the reason for the share price to differ from the intrinsic value? For 2238, I’ve put together three pertinent aspects you should further research:

Financial Health: Does 2238 have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
Future Earnings: How does 2238’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.
Other High Quality Alternatives: Are there other high quality stocks you could be holding instead of 2238? 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 for every stock on the HKG every 6 hours. If you want to find the calculation for other stocks just search here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.

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