Key Insights
-
SDS Group Berhad's estimated fair value is RM0.60 based on 2 Stage Free Cash Flow to Equity
-
SDS Group Berhad's RM0.72 share price signals that it might be 20% overvalued
-
SDS Group Berhad's peers seem to be trading at a higher premium to fair value based on the industry average of -55%
In this article we are going to estimate the intrinsic value of SDS Group Berhad ( KLSE:SDS ) by taking the expected future cash flows and discounting them to today's value. Our analysis will employ the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.
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. 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 .
The Model
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. 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.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we need to discount the sum of these future cash flows to arrive at a present value estimate:
10-year free cash flow (FCF) estimate
| 2026 |
2027 |
2028 |
2029 |
2030 |
2031 |
2032 |
2033 |
2034 |
2035 |
|
|---|---|---|---|---|---|---|---|---|---|---|
| Levered FCF (MYR, Millions) |
RM17.9m |
RM17.7m |
RM17.7m |
RM17.9m |
RM18.3m |
RM18.7m |
RM19.3m |
RM19.9m |
RM20.5m |
RM21.2m |
| Growth Rate Estimate Source |
Est @ -3.60% |
Est @ -1.41% |
Est @ 0.13% |
Est @ 1.20% |
Est @ 1.95% |
Est @ 2.48% |
Est @ 2.85% |
Est @ 3.11% |
Est @ 3.29% |
Est @ 3.41% |
| Present Value (MYR, Millions) Discounted @ 8.5% |
RM16.5 |
RM15.0 |
RM13.9 |
RM12.9 |
RM12.2 |
RM11.5 |
RM10.9 |
RM10.3 |
RM9.8 |
RM9.4 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF)= RM122m
The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. 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 3.7%. We discount the terminal cash flows to today's value at a cost of equity of 8.5%.
Terminal Value (TV)= FCF2035 × (1 + g) ÷ (r – g) = RM21m× (1 + 3.7%) ÷ (8.5%– 3.7%) = RM460m
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= RM460m÷ ( 1 + 8.5%)10= RM203m
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 RM326m. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of RM0.7, the company appears slightly overvalued at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.
The Assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 SDS Group 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 8.5%, 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.
See our latest analysis for SDS Group Berhad
SWOT Analysis for SDS Group Berhad
Strength
-
Debt is not viewed as a risk.
-
Dividends are covered by earnings and cash flows.
Weakness
-
Earnings declined over the past year.
-
Dividend is low compared to the top 25% of dividend payers in the Food market.
Opportunity
-
Annual earnings are forecast to grow faster than the Malaysian market.
-
Good value based on P/E ratio compared to estimated Fair P/E ratio.
Threat
-
No apparent threats visible for SDS.
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 example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. What is the reason for the share price exceeding the intrinsic value? For SDS Group Berhad, we've compiled three important items you should further research:
-
Risks: You should be aware of the 1 warning sign for SDS Group Berhad we've uncovered before considering an investment in the company.
-
Future Earnings: How does SDS'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 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 .
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.
