A Look At The Intrinsic Value Of Sunny Optical Technology (Group) Company Limited (HKG:2382)

Simply Wall St.11-28 07:50

Key Insights The projected fair value for Sunny Optical Technology (Group) is HK$62.18 based on 2 Stage Free Cash Flow to Equity With HK$60.50 share price, Sunny Optical Technology (Group) appears ...

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Our analysis will employ the Discounted Cash Flow (DCF) model.  Don't get put off by the jargon, the math behind it is actually quite straightforward.  We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws.  Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.  View our latest analysis for Sunny Optical Technology (Group)  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,  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  2025 2026 2027 2028 2029 2030 2031 2032 2033 2034  Levered FCF (CN¥, Millions)  CN¥3.96b CN¥4.24b CN¥4.45b CN¥3.88b CN¥3.90b CN¥3.95b CN¥4.01b CN¥4.08b CN¥4.16b CN¥4.25b Growth Rate Estimate Source Analyst x9 Analyst x7 Analyst x2 Analyst x1 Est @ 0.66% Est @ 1.16% Est @ 1.52% Est @ 1.76% Est @ 1.94% Est @ 2.06%  Present Value (CN¥, Millions) Discounted @ 8.0%  CN¥3.7k CN¥3.6k CN¥3.5k CN¥2.9k CN¥2.7k CN¥2.5k CN¥2.3k CN¥2.2k CN¥2.1k CN¥2.0k (\"Est\" = FCF growth rate estimated by Simply Wall St)Present Value of 10-year Cash Flow (PVCF) = CN¥27b 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 (2.3%) 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 8.0%. Terminal Value (TV)= FCF2034 × (1 + g) ÷ (r – g) = CN¥4.2b× (1 + 2.3%) ÷ (8.0%– 2.3%) = CN¥77bPresent Value of Terminal Value (PVTV)= TV / (1 + r)10= CN¥77b÷ ( 1 + 8.0%)10= CN¥36b The total value, or equity value, is then the sum of the present value of the future cash flows,  which in this case is CN¥63b.  The last step is to then divide the equity value by the number of shares outstanding.  Relative to the current share price of HK$60.5, the company appears   about fair value    at a 2.7% discount to where the stock price trades currently.   Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out. SEHK:2382 Discounted Cash Flow November 27th 2024  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 Sunny Optical Technology (Group) 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 8.0%, which is based on a levered beta of 1.130. 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 Sunny Optical Technology (Group)Strength Earnings growth over the past year exceeded the industry. Debt is not viewed as a risk. Balance sheet summary for 2382. Weakness Dividend is low compared to the top 25% of dividend payers in the Electronic market.Opportunity Annual earnings are forecast to grow faster than the Hong Kong market.  Current share price is below our estimate of fair value. Threat Revenue is forecast to grow slower than 20% per year.  What else are analysts forecasting for 2382?  Moving On:  Although the valuation of a company is important, it  is only one of many factors that you need to assess for a company.  It's not possible to obtain a foolproof valuation with a DCF model.  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.  For Sunny Optical Technology (Group), there are three  fundamental  items  you should further research:  Financial Health: Does 2382 have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk. Future Earnings: How does 2382'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 Hong Kong stock every day, so if you want to find the intrinsic value of any other stock just search here.New: Manage All Your Stock Portfolios in One PlaceWe've created the ultimate portfolio companion for stock investors, and it's free.• Connect an unlimited number of Portfolios and see your total in one currency• Be alerted to new Warning Signs or Risks via email or mobile• Track the Fair Value of your stocksTry a Demo Portfolio for FreeHave 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. 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