Stock Analysis

Calculating The Fair Value Of National Industrialization Company (TADAWUL:2060)

SASE:2060
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How far off is National Industrialization Company (TADAWUL:2060) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced 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. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

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. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.

Check out our latest analysis for National Industrialization

What's The Estimated Valuation?

We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. To start off with, we need to estimate 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.

Generally we assume that a dollar today is more valuable than a dollar in the future, 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

2023 2024 2025 2026 2027 2028 2029 2030 2031 2032
Levered FCF (SAR, Millions) ر.س960.3m ر.س1.17b ر.س1.39b ر.س1.07b ر.س913.2m ر.س845.3m ر.س823.8m ر.س831.1m ر.س858.3m ر.س900.9m
Growth Rate Estimate Source Analyst x3 Analyst x3 Analyst x2 Analyst x1 Est @ -14.42% Est @ -7.43% Est @ -2.54% Est @ 0.88% Est @ 3.28% Est @ 4.96%
Present Value (SAR, Millions) Discounted @ 17% ر.س819 ر.س850 ر.س863 ر.س564 ر.س411 ر.س325 ر.س270 ر.س232 ر.س204 ر.س183

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ر.س4.7b

The second stage is also known as Terminal Value, this is the business's cash flow after 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 (8.9%) 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)= FCF2032 × (1 + g) ÷ (r – g) = ر.س901m× (1 + 8.9%) ÷ (17%– 8.9%) = ر.س12b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= ر.س12b÷ ( 1 + 17%)10= ر.س2.4b

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.س7.1b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of ر.س12.4, 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.

dcf
SASE:2060 Discounted Cash Flow January 1st 2023

The 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. 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 National Industrialization 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 1.300. 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 National Industrialization

Strength
  • Debt is well covered by earnings.
Weakness
  • Earnings growth over the past year underperformed the Chemicals industry.
Opportunity
  • Annual earnings are forecast to grow faster than the Saudi market.
  • Good value based on P/E ratio compared to estimated Fair P/E ratio.
Threat
  • Debt is not well covered by operating cash flow.
  • Annual earnings are forecast to decline for the next 4 years.

Next Steps:

Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn't be the only metric you look at when researching 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 National Industrialization, we've put together three fundamental elements you should further research:

  1. Risks: To that end, you should learn about the 2 warning signs we've spotted with National Industrialization (including 1 which can't be ignored) .
  2. Future Earnings: How does 2060'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 SASE every day. If you want to find the calculation for other stocks just search here.

Valuation is complex, but we're helping make it simple.

Find out whether National Industrialization is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.

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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.