Calculating The Fair Value Of Przedsiebiorstwo Hydrauliki Silowej HYDROTOR S.A. (WSE:HDR)

Key Insights

• Przedsiebiorstwo Hydrauliki Silowej HYDROTOR's estimated fair value is zł22.66 based on 2 Stage Free Cash Flow to Equity
• Current share price of zł22.30 suggests Przedsiebiorstwo Hydrauliki Silowej HYDROTOR is potentially trading close to its fair value
• The average premium for Przedsiebiorstwo Hydrauliki Silowej HYDROTOR's competitorsis currently 15%

Does the February share price for Przedsiebiorstwo Hydrauliki Silowej HYDROTOR S.A. (WSE:HDR) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by taking the expected future cash flows and discounting them to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Don't get put off by the jargon, the math behind it is actually quite straightforward.

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 Przedsiebiorstwo Hydrauliki Silowej HYDROTOR

Is Przedsiebiorstwo Hydrauliki Silowej HYDROTOR Fairly Valued?

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.

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) forecast

	2025	2026	2027	2028	2029	2030	2031	2032	2033	2034
Levered FCF (PLN, Millions)	zł4.17m	zł4.23m	zł4.32m	zł4.44m	zł4.58m	zł4.74m	zł4.91m	zł5.09m	zł5.29m	zł5.50m
Growth Rate Estimate Source	Est @ 0.25%	Est @ 1.39%	Est @ 2.20%	Est @ 2.76%	Est @ 3.15%	Est @ 3.43%	Est @ 3.62%	Est @ 3.76%	Est @ 3.85%	Est @ 3.92%
Present Value (PLN, Millions) Discounted @ 11%	zł3.7	zł3.4	zł3.1	zł2.9	zł2.7	zł2.5	zł2.3	zł2.2	zł2.0	zł1.9

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = zł27m

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 4.1%. We discount the terminal cash flows to today's value at a cost of equity of 11%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = zł5.5m× (1 + 4.1%) ÷ (11%– 4.1%) = zł80m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= zł80m÷ ( 1 + 11%)¹⁰= zł28m

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 zł54m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of zł22.3, the company appears about fair value at a 1.6% discount to where the stock price trades currently. 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 Przedsiebiorstwo Hydrauliki Silowej HYDROTOR 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 11%, which is based on a levered beta of 1.392. 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 Przedsiebiorstwo Hydrauliki Silowej HYDROTOR

Moving On:

Whilst important, the DCF calculation shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. For Przedsiebiorstwo Hydrauliki Silowej HYDROTOR, we've compiled three relevant factors you should look at:

1. Risks: Be aware that Przedsiebiorstwo Hydrauliki Silowej HYDROTOR is showing 3 warning signs in our investment analysis , and 1 of those is a bit unpleasant...
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. Simply Wall St updates its DCF calculation for every Polish stock every day, so if you want to find the intrinsic value of any other stock 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.