How far off is Emirates Telecommunications Group Company PJSC (ADX:ETISALAT) from its intrinsic value? Using the most recent financial data, we’ll take a look at whether the stock is fairly priced by taking the forecast future cash flows of the company and discounting them back to today’s value. Our analysis will employ the Discounted Cash Flow (DCF) model. Models like these may appear beyond the comprehension of a lay person, but they’re fairly easy to follow.
Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. 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.
View our latest analysis for Emirates Telecommunications Group Company PJSC
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. Where possible we use analyst estimates, but when these aren’t available we extrapolate the previous free cash flow (FCF) from the last estimate or 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.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, 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
|Levered FCF (AED, Millions)||د.إ9.00b||د.إ9.54b||د.إ9.31b||د.إ9.41b||د.إ9.72b||د.إ10.2b||د.إ10.8b||د.إ11.6b||د.إ12.5b||د.إ13.5b|
|Growth Rate Estimate Source||Analyst x2||Analyst x2||Est @ -2.35%||Est @ 1.02%||Est @ 3.38%||Est @ 5.03%||Est @ 6.18%||Est @ 6.99%||Est @ 7.56%||Est @ 7.96%|
|Present Value (AED, Millions) Discounted @ 13%||د.إ8.0k||د.إ7.5k||د.إ6.5k||د.إ5.8k||د.إ5.4k||د.إ5.0k||د.إ4.7k||د.إ4.5k||د.إ4.3k||د.إ4.1k|
(“Est” = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = د.إ56b
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 8.9%. We discount the terminal cash flows to today’s value at a cost of equity of 13%.
Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = د.إ13b× (1 + 8.9%) ÷ (13%– 8.9%) = د.إ388b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= د.إ388b÷ ( 1 + 13%)10= د.إ118b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is د.إ173b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of د.إ25.8, the company appears slightly overvalued 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.
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 Emirates Telecommunications Group Company PJSC 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 13%, which is based on a levered beta of 0.800. 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.
Whilst important, the DCF calculation is only one of many factors that you need to assess for a company. DCF models are not the be-all and end-all of investment valuation. 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. Why is the intrinsic value lower than the current share price? For Emirates Telecommunications Group Company PJSC, we’ve compiled three important aspects you should further examine:
- Risks: We feel that you should assess the 1 warning sign for Emirates Telecommunications Group Company PJSC we’ve flagged before making an investment in the company.
- Future Earnings: How does ETISALAT’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: 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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the ADX 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.