A Look At The Fair Value Of Qatar Gas Transport Company Limited (Nakilat) (QPSC) (DSM:QGTS)

Key Insights

• The projected fair value for Qatar Gas Transport Company Limited (Nakilat) (QPSC) is ر.ق3.66 based on 2 Stage Free Cash Flow to Equity
• Qatar Gas Transport Company Limited (Nakilat) (QPSC)'s ر.ق4.23 share price indicates it is trading at similar levels as its fair value estimate
• The ر.ق4.46 analyst price target for QGTS is 22% more than our estimate of fair value

Today we will run through one way of estimating the intrinsic value of Qatar Gas Transport Company Limited (Nakilat) (QPSC) (DSM:QGTS) by estimating the company's future cash flows and discounting them to their present value. Our analysis will employ the Discounted Cash Flow (DCF) model. 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 Qatar Gas Transport Company Limited (Nakilat) (QPSC)

Crunching The Numbers

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

10-year free cash flow (FCF) estimate

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ر.ق14b

After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (9.0%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 21%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = ر.ق4.7b× (1 + 9.0%) ÷ (21%– 9.0%) = ر.ق42b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ر.ق42b÷ ( 1 + 21%)¹⁰= ر.ق6.3b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is ر.ق20b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of ر.ق4.2, 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.

Important Assumptions

We would point out that the most important inputs to a discounted cash flow are the discount rate and of course the actual 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 Qatar Gas Transport Company Limited (Nakilat) (QPSC) 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 21%, which is based on a levered beta of 1.722. 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 Qatar Gas Transport Company Limited (Nakilat) (QPSC)

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. 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?" 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 Qatar Gas Transport Company Limited (Nakilat) (QPSC), we've put together three essential factors you should further examine:

1. Risks: For example, we've discovered 1 warning sign for Qatar Gas Transport Company Limited (Nakilat) (QPSC) that you should be aware of before investing here.
2. Future Earnings: How does QGTS'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 DSM 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.