Calculating The Fair Value Of Hilan Ltd. (TLV:HLAN)

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, Hilan fair value estimate is ₪174
• Current share price of ₪180 suggests Hilan is potentially trading close to its fair value
• When compared to theindustry average discount of -289%, Hilan's competitors seem to be trading at a greater premium to fair value

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Hilan Ltd. (TLV:HLAN) as an investment opportunity by estimating the company's future cash flows and discounting them to their present value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. It may sound complicated, but actually it is quite simple!

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. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

View our latest analysis for Hilan

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. To start off with, we need to estimate 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 discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (₪, Millions)	₪240.4m	₪236.3m	₪234.7m	₪234.9m	₪236.3m	₪238.6m	₪241.5m	₪244.9m	₪248.6m	₪252.6m
Growth Rate Estimate Source	Est @ -3.21%	Est @ -1.71%	Est @ -0.65%	Est @ 0.09%	Est @ 0.60%	Est @ 0.97%	Est @ 1.22%	Est @ 1.40%	Est @ 1.52%	Est @ 1.61%
Present Value (₪, Millions) Discounted @ 7.3%	₪224	₪205	₪190	₪177	₪166	₪156	₪147	₪139	₪132	₪125

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₪1.7b

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 1.8%. We discount the terminal cash flows to today's value at a cost of equity of 7.3%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = ₪253m× (1 + 1.8%) ÷ (7.3%– 1.8%) = ₪4.7b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ₪4.7b÷ ( 1 + 7.3%)¹⁰= ₪2.3b

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 ₪4.0b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of ₪180, the company appears around fair value 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.

The 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 Hilan 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 7.3%, which is based on a levered beta of 0.905. 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.

Looking Ahead:

Whilst important, the DCF calculation is only one of many factors that you need to assess for a company. DCF models are not the be-all and end-all of investment valuation. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Hilan, we've compiled three pertinent items you should assess:

1. Financial Health: Does HLAN 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.
2. 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!
3. Other Environmentally-Friendly Companies: Concerned about the environment and think consumers will buy eco-friendly products more and more? Browse through our interactive list of companies that are thinking about a greener future to discover some stocks you may not have thought of!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the TASE 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.