The projected fair value for Highway Holdings is US$1.57 based on 2 Stage Free Cash Flow to Equity
Highway Holdings' US$1.86 share price indicates it is trading at similar levels as its fair value estimate
Industry average of 32% suggests Highway Holdings' peers are currently trading at a higher premium to fair value
Today we will run through one way of estimating the intrinsic value of Highway Holdings Limited (NASDAQ:HIHO) by taking the forecast future cash flows of the company and discounting them back to today's value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!
We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To begin with, we have to get estimates of the next ten years of cash flows. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
Generally we assume that a dollar today is more valuable than a dollar in the future, so we discount the value of these future cash flows to their estimated value in today's dollars:
10-year free cash flow (FCF) forecast
2025
2026
2027
2028
2029
2030
2031
2032
2033
2034
Levered FCF ($, Millions)
US$344.9k
US$358.7k
US$371.5k
US$383.8k
US$395.6k
US$407.3k
US$418.9k
US$430.6k
US$442.4k
US$454.3k
Growth Rate Estimate Source
Est @ 4.59%
Est @ 4.00%
Est @ 3.59%
Est @ 3.30%
Est @ 3.09%
Est @ 2.95%
Est @ 2.85%
Est @ 2.78%
Est @ 2.73%
Est @ 2.70%
Present Value ($, Millions) Discounted @ 7.8%
US$0.3
US$0.3
US$0.3
US$0.3
US$0.3
US$0.3
US$0.2
US$0.2
US$0.2
US$0.2
("Est" = FCF growth rate estimated by Simply Wall St) Present Value of 10-year Cash Flow (PVCF) = US$2.7m
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 2.6%. We discount the terminal cash flows to today's value at a cost of equity of 7.8%.
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$9.0m÷ ( 1 + 7.8%)10= US$4.2m
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$6.9m. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of US$1.9, the company appears around fair value at the time of writing. 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.
NasdaqCM:HIHO Discounted Cash Flow February 4th 2025
The Assumptions
Now 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 Highway Holdings 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 1.071. 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 Highway Holdings
Strength
Currently debt free.
Dividend is in the top 25% of dividend payers in the market.
Weakness
Current share price is above our estimate of fair value.
Opportunity
Has sufficient cash runway for more than 3 years based on current free cash flows.
Lack of analyst coverage makes it difficult to determine HIHO's earnings prospects.
Threat
No apparent threats visible for HIHO.
Next Steps:
Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn't be the only metric you look at when researching a company. It's not possible to obtain a foolproof valuation with a DCF model. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Highway Holdings, there are three fundamental elements you should further examine:
Risks: For example, we've discovered 3 warning signs for Highway Holdings (2 make us uncomfortable!) that you should be aware of before investing here.
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. Simply Wall St updates its DCF calculation for every American stock every day, so if you want to find the intrinsic value of any other stock just search here.
Have feedback on this article? Concerned about the content?Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
