Calculating The Fair Value Of Dreamus Company (KOSDAQ:060570)

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, Dreamus fair value estimate is ₩1,745
• Dreamus' ₩1,943 share price indicates it is trading at similar levels as its fair value estimate
• Dreamus' peers seem to be trading at a higher premium to fair value based onthe industry average of -51%

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Dreamus Company (KOSDAQ:060570) as an investment opportunity by taking the expected future cash flows and discounting them to their present value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!

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 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.

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Step By Step Through The Calculation

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. 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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2026	2027	2028	2029	2030	2031	2032	2033	2034	2035
Levered FCF (₩, Millions)	₩7.05b	₩7.26b	₩7.48b	₩7.69b	₩7.91b	₩8.14b	₩8.37b	₩8.61b	₩8.85b	₩9.10b
Growth Rate Estimate Source	Est @ 3.08%	Est @ 3.00%	Est @ 2.94%	Est @ 2.90%	Est @ 2.87%	Est @ 2.85%	Est @ 2.83%	Est @ 2.82%	Est @ 2.82%	Est @ 2.81%
Present Value (₩, Millions) Discounted @ 8.2%	₩6.5k	₩6.2k	₩5.9k	₩5.6k	₩5.3k	₩5.1k	₩4.8k	₩4.6k	₩4.4k	₩4.1k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₩53b

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 2.8%. We discount the terminal cash flows to today's value at a cost of equity of 8.2%.

Terminal Value (TV)= FCF₂₀₃₅ × (1 + g) ÷ (r – g) = ₩9.1b× (1 + 2.8%) ÷ (8.2%– 2.8%) = ₩174b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ₩174b÷ ( 1 + 8.2%)¹⁰= ₩79b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is ₩132b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of ₩1.9k, the company appears around fair value at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

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 Dreamus 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 8.2%, which is based on a levered beta of 1.078. 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.

See our latest analysis for Dreamus

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. DCF models are not the be-all and end-all of investment valuation. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Dreamus, there are three pertinent aspects you should further examine:

1. Risks: Be aware that Dreamus is showing 1 warning sign in our investment analysis , you should know about...
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 KOSDAQ 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.