Does the April share price for Qatar Industries QPSC (DSM:IQCD) reflect what it is really worth? Today we are going to estimate the intrinsic value of the stock by estimating the future cash flows of the company and discounting them to their present value. On this occasion, we will use the Discounted Cash Flow (DCF) model. Before you think you can’t figure it out, just read on! It’s actually a lot less complex than you might imagine.
Remember though that there are many ways to estimate the value of a business and a DCF is just one method. Anyone interested in learning a little more about intrinsic value should read the Simply Wall St.
Check out our latest analysis for Qatar QPSC Industries
Step by step in the calculation
We use the 2-stage growth model, which simply means that we consider two stages of business growth. In the initial period, the company may have a higher growth rate, and the second stage is generally assumed to have a stable growth rate. To start, we need to estimate the cash flows for the next ten years. Wherever possible, we use analysts’ estimates, but where these are not available, we extrapolate the previous free cash flow (FCF) from the latest estimate or reported value. We assume that companies with decreasing free cash flow will slow their rate of contraction and companies with increasing free cash flow will see their growth rate slow during this period. We do this to reflect the fact that growth tends to slow more in early years than in later years.
Generally, we assume that a dollar today is worth more than a dollar in the future, so we need to discount the sum of these future cash flows to arrive at an estimate of present value:
Estimated free cash flow (FCF) over 10 years
2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | |
Leveraged FCF (QAR, Millions) | ر.ق8.38b | ر.ق7.39b | ر.ق6.98b | ر.ق6.92b | ر.ق7.06b | ر.ق7.35b | ر.ق7.76b | ر.ق8.27b | ر.ق8.87b | ر.ق9.57b |
Growth rate estimate Source | Analyst x4 | Analyst x3 | Analyst x2 | Is @ -0.93% | Is at 2.04% | Is at 4.12% | Is at 5.57% | Is at 6.59% | Is at 7.3% | Is at 7.8% |
Present value (QAR, millions) discounted at 13% | ر.ق7.4k | ر.ق5.7k | ر.ق4.8k | ر.ق4.2k | ر.ق3.8k | ر.ق3.5k | ر.ق3.2k | ر.ق3.0k | ر.ق2.9k | ر.ق2.7k |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = ر.ق41b
After calculating the present value of future cash flows over the initial 10-year period, we need to calculate the terminal value, which takes into account all future cash flows beyond the first stage. For a number of reasons, a very conservative growth rate is used which cannot exceed that of a country’s GDP growth. In this case, we used the 5-year average of the 10-year government bond yield (9.0%) to estimate future growth. Similar to the 10-year “growth” period, we discount future cash flows to present value, using a cost of equity of 13%.
Terminal value (TV)= FCF_{2031} × (1 + g) ÷ (r – g) = ر.Þ9.6b × (1 + 9.0%) ÷ (13%– 9.0%) = ر.Þ235b
Present value of terminal value (PVTV)= TV / (1 + r)^{ten}= ر.Þ235b÷ ( 1 + 13%)^{ten}= ر.ق67b
The total value is the sum of the cash flows for the next ten years plus the present terminal value, which gives the total equity value, which in this case is ر.ق108b. The final step is to divide the equity value by the number of shares outstanding. Compared to the current share price of ر.ق20.0, the company appears around fair value at the time of writing. Ratings are imprecise instruments, however, much like a telescope – move a few degrees and end up in a different galaxy. Keep that in mind.
The hypotheses
The above calculation is highly dependent on two assumptions. One is the discount rate and the other is the cash flows. You don’t have to agree with these entries, I recommend you redo the calculations yourself and play around with them. The DCF also does not take into account the possible cyclicality of an industry or the future capital needs of a company, so it does not give a complete picture of a company’s potential performance. Since we consider QPSC Qatar Industries 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 takes debt into account. In this calculation, we used 13%, which is based on a leveraged beta of 0.915. Beta is a measure of a stock’s volatility relative to the market as a whole. We derive our beta from the average industry beta of broadly comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable company.
Next steps:
Valuation is only one side of the coin in terms of crafting your investment thesis, and it shouldn’t be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Rather, it should be seen as a guide to “what assumptions must be true for this stock to be under/overvalued?” For example, if the terminal value growth rate is adjusted slightly, it can significantly change the overall result. For Qatar Industries QPSC, there are three fundamental elements you need to assess:
- Risks: For example, we spotted 2 warning signs for Qatar QPSC Industries you should be aware of, and 1 of them is significant.
- Future earnings: How does IQCD’s growth rate compare to its peers and the market in general? Dive deeper into the analyst consensus figure for the coming years by interacting with our free analyst growth forecast chart.
- Other high-quality alternatives: Do you like a good all-rounder? Explore our interactive list of high-quality actions to get an idea of what you might be missing!
PS. Simply Wall St updates its DCF calculation daily for every Qatari stock, so if you want to find the intrinsic value of any other stock, just search here.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.