Stock Analysis

Jarir Marketing Company (TADAWUL:4190) Shares Could Be 21% Above Their Intrinsic Value Estimate

  •  Updated
SASE:4190
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Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Jarir Marketing Company (TADAWUL:4190) as an investment opportunity by taking the expected future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. 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.

Our analysis indicates that 4190 is potentially undervalued!

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. In the first stage we need to estimate the cash flows to the business over the next ten years. 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, so we discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) estimate

2023 2024 2025 2026 2027 2028 2029 2030 2031 2032
Levered FCF (SAR, Millions) ر.س1.19b ر.س1.24b ر.س1.43b ر.س1.41b ر.س1.44b ر.س1.50b ر.س1.58b ر.س1.68b ر.س1.80b ر.س1.94b
Growth Rate Estimate Source Analyst x4 Analyst x3 Analyst x2 Analyst x1 Est @ 2% Est @ 4.06% Est @ 5.5% Est @ 6.51% Est @ 7.22% Est @ 7.72%
Present Value (SAR, Millions) Discounted @ 15% ر.س1.0k ر.س943 ر.س944 ر.س814 ر.س724 ر.س656 ر.س603 ر.س560 ر.س523 ر.س491

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ر.س7.3b

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 15%.

Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = ر.س1.9b× (1 + 8.9%) ÷ (15%– 8.9%) = ر.س36b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= ر.س36b÷ ( 1 + 15%)10= ر.س9.1b

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.س16b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of ر.س165, the company appears slightly overvalued 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:4190 Discounted Cash Flow December 1st 2022

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 Jarir Marketing 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 15%, which is based on a levered beta of 0.984. 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 Jarir Marketing

Strength
  • Currently debt free.
Weakness
  • Earnings declined over the past year.
  • Dividend is low compared to the top 25% of dividend payers in the Specialty Retail market.
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
  • Dividends are not covered by earnings and cashflows.
  • Revenue is forecast to grow slower than 20% per year.

Moving On:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. It's not possible to obtain a foolproof valuation with a DCF model. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. Can we work out why the company is trading at a premium to intrinsic value? For Jarir Marketing, there are three important items you should further research:

  1. Risks: For example, we've discovered 1 warning sign for Jarir Marketing that you should be aware of before investing here.
  2. Future Earnings: How does 4190'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 Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!

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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