Key Insights
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S P Setia Berhad's estimated fair value is RM1.08 based on 2 Stage Free Cash Flow to Equity
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S P Setia Berhad is estimated to be 27% undervalued based on current share price of RM0.80
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Analyst price target for SPSETIA is RM1.23, which is 14% above our fair value estimate
Today we'll do a simple run through of a valuation method used to estimate the attractiveness of S P Setia Berhad ( KLSE:SPSETIA ) as an investment opportunity by taking the forecast future cash flows of the company and discounting them back to today's value. One way to achieve this is by employing 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.
We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model .
The Calculation
We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. 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.
Generally we assume that a dollar today is more valuable than a dollar in the future, and so the sum of these future cash flows is then discounted to today's value:
10-year free cash flow (FCF) forecast
| 2026 |
2027 |
2028 |
2029 |
2030 |
2031 |
2032 |
2033 |
2034 |
2035 |
|
|---|---|---|---|---|---|---|---|---|---|---|
| Levered FCF (MYR, Millions) |
RM1.01b |
RM850.5m |
RM770.2m |
RM727.9m |
RM708.0m |
RM702.4m |
RM706.2m |
RM716.8m |
RM732.3m |
RM751.6m |
| Growth Rate Estimate Source |
Analyst x4 |
Analyst x2 |
Est @ -9.44% |
Est @ -5.49% |
Est @ -2.73% |
Est @ -0.80% |
Est @ 0.55% |
Est @ 1.50% |
Est @ 2.16% |
Est @ 2.63% |
| Present Value (MYR, Millions) Discounted @ 16% |
RM873 |
RM636 |
RM498 |
RM407 |
RM342 |
RM293 |
RM255 |
RM224 |
RM198 |
RM175 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF)= RM3.9b
We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (3.7%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 16%.
Terminal Value (TV)= FCF2035 × (1 + g) ÷ (r – g) = RM752m× (1 + 3.7%) ÷ (16%– 3.7%) = RM6.5b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= RM6.5b÷ ( 1 + 16%)10= RM1.5b
The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is RM5.4b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of RM0.8, the company appears a touch undervalued at a 27% discount to where the stock price trades currently. 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.
The Assumptions
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. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 S P Setia Berhad 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 16%, which is based on a levered beta of 2.000. 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.
Check out our latest analysis for S P Setia Berhad
SWOT Analysis for S P Setia Berhad
Strength
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Debt is well covered by earnings.
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Dividends are covered by earnings and cash flows.
Weakness
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Earnings declined over the past year.
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Dividend is low compared to the top 25% of dividend payers in the Real Estate market.
Opportunity
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Annual earnings are forecast to grow faster than the Malaysian market.
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Trading below our estimate of fair value by more than 20%.
Threat
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Debt is not well covered by operating cash flow.
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Revenue is forecast to grow slower than 20% per year.
Next Steps:
Valuation is only one side of the coin in terms of building your investment thesis, and it is only one of many factors that you need to assess for a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. Why is the intrinsic value higher than the current share price? For S P Setia Berhad, we've compiled three fundamental factors you should consider:
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Risks: Case in point, we've spotted 1 warning sign for S P Setia Berhad you should be aware of.
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Future Earnings: How does SPSETIA'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 .
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Other Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!
PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the KLSE 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.
