EuroEyes International Eye Clinic Limited (HKG:1846) Shares Could Be 24% Below Their Intrinsic Value Estimate

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, EuroEyes International Eye Clinic fair value estimate is HK$6.43
• EuroEyes International Eye Clinic is estimated to be 24% undervalued based on current share price of HK$4.90
• The HK$9.44 analyst price target for 1846 is 47% more than our estimate of fair value

In this article we are going to estimate the intrinsic value of EuroEyes International Eye Clinic Limited (HKG:1846) by projecting its future cash flows and then discounting them 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. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

See our latest analysis for EuroEyes International Eye Clinic

The Method

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. 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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) estimate

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (HK$, Millions)	HK$204.8m	HK$159.9m	HK$135.4m	HK$121.6m	HK$113.6m	HK$109.0m	HK$106.4m	HK$105.3m	HK$105.1m	HK$105.5m
Growth Rate Estimate Source	Analyst x1	Analyst x1	Est @ -15.33%	Est @ -10.19%	Est @ -6.59%	Est @ -4.07%	Est @ -2.31%	Est @ -1.08%	Est @ -0.21%	Est @ 0.39%
Present Value (HK$, Millions) Discounted @ 6.6%	HK$192	HK$141	HK$112	HK$94.3	HK$82.7	HK$74.5	HK$68.3	HK$63.4	HK$59.3	HK$55.9

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = HK$943m

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 1.8%. We discount the terminal cash flows to today's value at a cost of equity of 6.6%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = HK$105m× (1 + 1.8%) ÷ (6.6%– 1.8%) = HK$2.3b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= HK$2.3b÷ ( 1 + 6.6%)¹⁰= HK$1.2b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is HK$2.1b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of HK$4.9, the company appears a touch undervalued at a 24% 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.

The Assumptions

Now 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 EuroEyes International Eye Clinic 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 6.6%, 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 EuroEyes International Eye Clinic

Next Steps:

Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won't be the sole piece of analysis you scrutinize 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 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 EuroEyes International Eye Clinic, there are three relevant items you should explore:

1. Risks: Take risks, for example - EuroEyes International Eye Clinic has 1 warning sign we think you should be aware of.
2. Future Earnings: How does 1846'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.
3. 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 SEHK 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.