A Look At The Intrinsic Value Of United Wire Factories Company (TADAWUL:1301)

Key Insights

• The projected fair value for United Wire Factories is ر.س25.55 based on 2 Stage Free Cash Flow to Equity
• Current share price of ر.س29.70 suggests United Wire Factories is potentially trading close to its fair value
• United Wire Factories' peers seem to be trading at a lower premium to fair value based onthe industry average of -10%

Today we will run through one way of estimating the intrinsic value of United Wire Factories Company (TADAWUL:1301) by taking the forecast future cash flows of the company and discounting them back to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

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.

Check out our latest analysis for United Wire Factories

Is United Wire Factories Fairly Valued?

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. In the first stage we need to estimate the cash flows to the business over the next ten years. 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 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 (SAR, Millions)	ر.س52.3m	ر.س64.1m	ر.س76.0m	ر.س87.9m	ر.س99.9m	ر.س112.2m	ر.س124.8m	ر.س138.1m	ر.س152.0m	ر.س166.9m
Growth Rate Estimate Source	Est @ 28.45%	Est @ 22.61%	Est @ 18.53%	Est @ 15.67%	Est @ 13.66%	Est @ 12.26%	Est @ 11.28%	Est @ 10.59%	Est @ 10.11%	Est @ 9.78%
Present Value (SAR, Millions) Discounted @ 17%	ر.س44.7	ر.س46.8	ر.س47.4	ر.س46.9	ر.س45.5	ر.س43.7	ر.س41.5	ر.س39.2	ر.س36.9	ر.س34.6

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ر.س427m

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 17%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = ر.س167m× (1 + 9.0%) ÷ (17%– 9.0%) = ر.س2.3b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ر.س2.3b÷ ( 1 + 17%)¹⁰= ر.س470m

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 ر.س897m. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of ر.س29.7, the company appears around fair value at the time of writing. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.

The Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 United Wire Factories 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 17%, which is based on a levered beta of 1.123. 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.

Next Steps:

Whilst important, the DCF calculation is only one of many factors that you need to assess for 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 United Wire Factories, we've put together three pertinent factors you should further examine:

1. Risks: As an example, we've found 2 warning signs for United Wire Factories that you need to consider before investing here.
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 SASE 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.