Is Sunac Services Holdings Limited (HKG:1516) Worth HK$1.9 Based On Its Intrinsic Value?

Key Insights

• Sunac Services Holdings' estimated fair value is HK$1.40 based on 2 Stage Free Cash Flow to Equity
• Current share price of HK$1.86 suggests Sunac Services Holdings is potentially 33% overvalued
• Our fair value estimate is 28% lower than Sunac Services Holdings' analyst price target of CN¥1.95

How far off is Sunac Services Holdings Limited (HKG:1516) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced by taking the forecast future cash flows of the company and discounting them back to today's 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!

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. 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.

See our latest analysis for Sunac Services Holdings

Crunching The Numbers

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.

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

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (CN¥, Millions)	CN¥311.0m	CN¥285.0m	CN¥270.7m	CN¥262.9m	CN¥259.2m	CN¥258.2m	CN¥259.1m	CN¥261.3m	CN¥264.5m	CN¥268.3m
Growth Rate Estimate Source	Analyst x1	Analyst x1	Est @ -5.01%	Est @ -2.90%	Est @ -1.41%	Est @ -0.38%	Est @ 0.35%	Est @ 0.86%	Est @ 1.21%	Est @ 1.46%
Present Value (CN¥, Millions) Discounted @ 8.0%	CN¥288	CN¥244	CN¥215	CN¥193	CN¥176	CN¥163	CN¥151	CN¥141	CN¥132	CN¥124

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CN¥1.8b

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 2.0%. We discount the terminal cash flows to today's value at a cost of equity of 8.0%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = CN¥268m× (1 + 2.0%) ÷ (8.0%– 2.0%) = CN¥4.6b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= CN¥4.6b÷ ( 1 + 8.0%)¹⁰= CN¥2.1b

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 CN¥4.0b. 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$1.9, the company appears reasonably expensive at the time of writing. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.

Important Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. If you don't agree with these result, have a go at the calculation yourself and play with the 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 Sunac Services Holdings 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 1.057. 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 Sunac Services Holdings

Next Steps:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. DCF models are not the be-all and end-all of investment valuation. 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. Can we work out why the company is trading at a premium to intrinsic value? For Sunac Services Holdings, we've put together three essential factors you should further examine:

1. Risks: For example, we've discovered 1 warning sign for Sunac Services Holdings that you should be aware of before investing here.
2. Future Earnings: How does 1516'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.

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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.