In this article, we are going to estimate the intrinsic value of Etihad Etisalat Company (TADAWUL:7020) by estimating the company’s future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model for this purpose. Patterns like these may seem beyond a layman’s comprehension, but they’re pretty easy to follow.
We draw your attention to the fact that there are many ways to value a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. Anyone interested in learning a little more about intrinsic value should read the Simply Wall St.
Check out our latest analysis for Etihad Etisalat
What is the estimated valuation?
We use what is called a 2-stage model, which simply means that we have two different periods of company cash flow growth rates. Generally, the first stage is a higher growth phase and the second stage is a lower growth phase. In the first step, we need to estimate the company’s cash flow over 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, and so the sum of these future cash flows is then discounted to today’s value:
Estimated free cash flow (FCF) over 10 years
| 2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | |
| Leveraged FCF (SAR, Millions) | ر.س1.21b | ر.س1.85b | ر.س1.97b | ر.س2.10b | ر.س2.26b | ر.س2.43b | ر.س2.63b | ر.س2.85b | ر.س3.10b | ر.س3.37b |
| Growth rate estimate Source | Analyst x1 | Analyst x2 | Analyst x1 | Is at 6.69% | Is at 7.37% | Is at 7.85% | Is at 8.18% | Is at 8.42% | Is at 8.58% | Is at 8.69% |
| Present value (SAR, millions) discounted at 13% | ر.س1.1k | ر.س1.5k | ر.س1.4k | ر.س1.3k | ر.س1.2k | ر.س1.2k | ر.س1.1k | ر.س1.1k | ر.س1.0k | ر.س1.0k |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = ر.س12b
We now need to calculate the terminal value, which represents all future cash flows after this ten-year period. The Gordon Growth formula is used to calculate the terminal value at a future annual growth rate equal to the 5-year average 10-year government bond yield of 9.0%. We discount terminal cash flows to present value at a cost of equity of 13%.
Terminal value (TV)= FCF2031 × (1 + g) ÷ (r – g) = ر.س3.4b × (1 + 9.0%) ÷ (13%– 9.0%) = ر.س93b
Present value of terminal value (PVTV)= TV / (1 + r)ten= ر.س93b÷ ( 1 + 13%)ten= ر.س28b
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.س39b. To get the intrinsic value per share, we divide it by the total number of shares outstanding. Compared to the current share price of ر.س37.5, the company looks slightly undervalued at a 27% discount to the current share price. The assumptions of any calculation have a big impact on the valuation, so it’s best to consider this as a rough estimate, not accurate down to the last penny.
Important assumptions
Now, the most important inputs to a discounted cash flow are the discount rate and, of course, the actual cash flows. If you disagree with these results, try the math yourself and play around with the assumptions. 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 Etihad Etisalat 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 0.800. 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.
Let’s move on :
Although important, the DCF calculation is just one of many factors you need to assess for a business. It is not possible to obtain an infallible valuation with a DCF model. Instead, the best use of 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, if the terminal value growth rate is adjusted slightly, it can significantly change the overall result. Why is intrinsic value higher than the current stock price? For Etihad Etisalat, we have compiled three important things you should consider:
- Risks: Every business has them, and we’ve spotted 2 warning signs for Etihad Etisalat you should know.
- Future earnings: How does 7020’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. The Simply Wall St app performs a discounted cash flow valuation for each stock on the SASE every day. If you want to find the calculation for other stocks, 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.