- Using the 2 Stage Free Cash Flow to Equity, HealthCare Global Enterprises fair value estimate is ₹377
- HealthCare Global Enterprises’ ₹372 share price indicates it is trading at similar levels as its fair value estimate
- The ₹389 analyst price target for HCG is 3.1% more than our estimate of fair value
Does the September share price for HealthCare Global Enterprises Limited (NSE:HCG) reflect what it’s really worth? Today, we will estimate the stock’s intrinsic value by estimating the company’s future cash flows and discounting them to their present value. Our analysis will employ the Discounted Cash Flow (DCF) model. Believe it or not, it’s not too difficult to follow, as you’ll see from our example!
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 still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
View our latest analysis for HealthCare Global Enterprises
Crunching The Numbers
We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company’s cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. In the first stage we need to estimate the cash flows to the business over the next ten years. 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, 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
|Levered FCF (₹, Millions)||₹1.38b||₹1.82b||₹2.72b||₹3.43b||₹4.12b||₹4.78b||₹5.42b||₹6.03b||₹6.63b||₹7.23b|
|Growth Rate Estimate Source||Analyst x6||Analyst x6||Analyst x1||Est @ 25.84%||Est @ 20.12%||Est @ 16.11%||Est @ 13.30%||Est @ 11.34%||Est @ 9.97%||Est @ 9.00%|
|Present Value (₹, Millions) Discounted @ 13%||₹1.2k||₹1.4k||₹1.9k||₹2.1k||₹2.2k||₹2.2k||₹2.2k||₹2.2k||₹2.1k||₹2.1k|
(“Est” = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₹20b
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 (6.8%) 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 13%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = ₹7.2b× (1 + 6.8%) ÷ (13%– 6.8%) = ₹116b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= ₹116b÷ ( 1 + 13%)10= ₹33b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is ₹53b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of ₹372, the company appears about fair value at a 1.3% 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.
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 HealthCare Global Enterprises 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.
SWOT Analysis for HealthCare Global Enterprises
- Debt is well covered by cash flow.
- Earnings declined over the past year.
- Interest payments on debt are not well covered.
- Annual earnings are forecast to grow faster than the Indian market.
- Current share price is below our estimate of fair value.
- Revenue is forecast to grow slower than 20% per year.
Although the valuation of a company is important, 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 need to be true for this stock to be under/overvalued?” For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For HealthCare Global Enterprises, we’ve compiled three relevant factors you should further examine:
- Risks: For instance, we’ve identified 2 warning signs for HealthCare Global Enterprises (1 is a bit unpleasant) you should be aware of.
- Future Earnings: How does HCG’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. Simply Wall St updates its DCF calculation for every Indian stock every day, so if you want to find the intrinsic value of any other stock just search here.
Valuation is complex, but we’re helping make it simple.
Find out whether HealthCare Global Enterprises is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.
View the Free Analysis
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.