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22 comment(s). Last comment by shinado 2016-03-25 22:30

Posted by Mohamad Jeffrey Ismail > 2016-03-23 01:13 | Report Abuse

I am using the same model of valuation.. by using FCF data from 2011-2015, the discount rate i usually used for my valuation between 9 for good sustain strong company up to 12% normal unsustain company, but i try to follow your discount rate of 8% as the company is in net cash (0% debt). Long term growth rate i usually put 10 for small to medium cap and 7 or 8 for large cap company. But i follow your 5% growth rate in this case. After all, I still got the fair value of RM0.92 for this company. If I use my standard DCF valuation, I found this company's fair value is RM1.12. I appreciate how you valuate the company and I wanna thanks for sharing your valuation.

I just wanna share this website as there is DCF valuation also from this great website.. http://www.isaham.my/stock/hupseng

Posted by buddyinvest > 2016-03-23 03:16 | Report Abuse

Kawan, share is not that complicated


303 posts

Posted by tony89 > 2016-03-23 04:37 | Report Abuse

you made me feel better now buddy invest. but worth a read!


413 posts

Posted by shinado > 2016-03-23 08:16 | Report Abuse

Jeffrey, my steps to calculate is as above. But I do not understand why your result and mine have a huge difference. Perhaps there is something I miss out?


1,063 posts

Posted by haikeyila > 2016-03-23 08:26 | Report Abuse

that fair value of 1.70 seems a little high to me... are the cash flow numbers obtained from the company's accounts?


413 posts

Posted by shinado > 2016-03-23 09:04 | Report Abuse

haikeyila, yes all from latest Q4 report and past annual reports. Now I am wondering if there is a mistake in my calculation.


1,038 posts

Posted by ksng0307 > 2016-03-23 09:33 | Report Abuse

Shinado, there is no so-called right or wrong in your valuation. You get 12 people to do the valuation and you will end up with one dozen answers of different value. Anyway, thanks for sharing, appreciate it.

JT Yeo

1,637 posts

Posted by JT Yeo > 2016-03-23 09:59 | Report Abuse

Shinado, with DCF the devil is in capex. The number in the capex include maintenance + growth. You have to exclude the growth number. The reason being if a company takes 100% of their operating cash flow to buy PPE, in the hope of generating more future revenue, turning FCF into zero, the value of the company shouldnt be zero right?

There's no easy way to estimate what is the maintenance capex. But depreciation figure can be a starting point, and you need to set your growth and terminal rate in DCF to zero.


413 posts

Posted by shinado > 2016-03-23 10:15 | Report Abuse

JT Yeo, mind to explain why growth and terminal rate should be set to zero? Thank you.


222 posts

Posted by latjiu > 2016-03-23 10:15 | Report Abuse

Perpetuity Value =
( CFn x (1+ g) ) / (R - g)

How to calculate if g>R?

JT Yeo

1,637 posts

Posted by JT Yeo > 2016-03-23 10:57 | Report Abuse

Should be set to zero if you only include maintenance capex in calculating FCF. And the reason of using maintenance capex only (excl growth capex) is that growth capex distort FCF.


413 posts

Posted by shinado > 2016-03-23 11:54 | Report Abuse

JT Yeo, thanks. It makes sense, however trying to calculate maintenance capex only will be difficult.

latjiu, Discount rate must always be higher than the long term growth rate. Think about it this way, if the long term growth rate of a company surpass the market expected rate (discount rate), it will become a no-brainer riskless investment.


413 posts

Posted by shinado > 2016-03-23 12:34 | Report Abuse

Ah I see. Thanks NOBY for pointing me to the right direction!


41 posts

Posted by fung9815 > 2016-03-25 12:13 | Report Abuse

Hi Shinado,

1) There's a mistake on your calculation of perpetuity value (though the answer is correct)

You mentioned: Perpetuity Value = 33788.11 x 1.05 / (8%-5%) = 1737604

It should be: 49645.82 x 1.05 / (8%-5%) = 1737604

Nothing major here, it just confused me for a minute

2) The subject that I want to talk more is: Discount Rate

I personally very particular (and sticky) on determining discount rate as it is super sensitive to the final results of valuation.

I stubbornly think that 10% is the perfect discount rate to apply, simply because the stocks market returned approx. 10% a year (including dividends) over the long past. To perform at least in line with the market, 8% isn't enough, to me at least.

If you realise that the capitalisation rate you used in your terminal value calculation, i.e. (r-g), was merely 3%, or in other words, you are valuing Hup Seng's EV at 33.3 times FCF at year-5 (even before adding back the 5 years discounted FCFs), that sounds a bit too much to me.

If you up your discount rate to 10% as I suggested, (r-g)=5%, or 20 times FCF, still high but more reasonable. (Note: I personally don't easily put a '5%' LT growth rate to a normal company. Growing at 5% p.a. PERPETUALLY is too crazy if you imagine it properly, probably only Coca-Cola can do that feat. For Hup Seng, I would probably use 3% or 4% (max), which gives me a cap rate of 7-6% (14-17 times FCF))

3) On Enterprise Value (EV), yes Hup Seng has no debt, but you cannot ignore the cash in Hup Seng's balance sheet, i.e. RM120m. You shouldn't compare 'EV' of RM1.70 to 'equity' price of RM1.28, that's a mismatch.

In fact, to your good news, your equity value is actually even higher at RM1.85 [(1361458+119964-0=1481422) divide by 800m shares]

4) If I use your forecast 5-year FCFs but my own discount rate (10%) and LT growth rate (reluctantly using 4% for illustration purpose), my equity valuation is at only RM1.03 per share. Hup Seng seems overvalued at current price unless its FCF can grow at double-digit rate in the next 5 years.

5) Anyway, value is in the eye of beholder. Everybody can have their own valuation. I'm glad that you brought this up. Let me know your thoughts :)

Happy investing!


41 posts

Posted by fung9815 > 2016-03-25 12:30 | Report Abuse

Also, I think one shouldn't use 5-year DCF valuation (or 10-yr or 20-yr or whatnot) if one isn't willing to hold that investment for that specified period. I've seen many people valuing companies using 10-year DCF but hold the stocks for only 9 months.


413 posts

Posted by shinado > 2016-03-25 14:10 | Report Abuse

Hi fung9815, thank you for highlighting all these points to me. I would not buy Hup Seng in the first place if I did not think of long term. Actually most of stocks I hold in my portfolio is for long term.

For your point 1, it's just typo and I corrected it now.

For your point 2, I think I agree with the way you think. Discount rate of 10% seems to be a 'safer' percentage when I look back and think of it.

For your point 4, past 5-year CAGR of FCF is at 19.2%. Excluding year 2015, 4-year CAGR is still a double digit rate. But what about 5-10 years down the road? I have no idea and only assume Hup Seng will have cash flow problems when I place a 5% FCF growth rate in the calculation.

Overall, DCF really do depend on quite some assumptions. I guess having a more conservative assumption will enable us the 'margin of safety'.

As of now, DCF will still not be a major part of my valuation methods when selecting stocks. EV/EBIT, Graham's IV formula & P/FCF are still my main preference.



41 posts

Posted by fung9815 > 2016-03-25 14:57 | Report Abuse

shinado, thanks for your response. (Reading back my own comments, I feel I sounded a bit rude, hope you don't mind :D)

Glad to hear that you are long-term investor, I don't see many nowadays. Keep it up!

Yes, I think DCF valuation is fun to do but really impractical to use unless you are to buy up a controlling stake of a company. Many people try to seek comfort in using DCF because it normally gives a higher value than P/E or P/Book or whatnot.

I like EV/EBIT too, but I tweak slightly to EV/EBIAT as tax is NOT what you get. P/FCF is basically 1-year DCF valuation (or 0-year DCF if you use historical figure).

Most importantly, it's the cap rate (r-g) that matters. My way of playing with (r-g) is (a) fixing the discount rate at 10%; and (b) determining the g within the range of 0-5% based on qualitative factors.

Honestly, I don't like Graham formula because I cannot understand the essence of it. Luckily, i dont have too. :D

On Hup Seng, I think 5% FCF 5-year growth is appropriate and conservative enough for valuation. Better be safe than sorry.

I'm new here btw. Look forward to more posts like this in the future. :)


413 posts

Posted by shinado > 2016-03-25 15:14 | Report Abuse

fung9815, another name for EBIAT is actually NOPAT :)

Using NOPAT is an interesting idea because just like you said, tax have to be paid. And that means your EV/NOPAT value will be lower than EV/EBIT.

I will try to come up with better post and analysis in the future!


41 posts

Posted by fung9815 > 2016-03-25 15:32 | Report Abuse

Actually, it doesnt matter whether it's called EBIAT or NOPAT or PATBI, important is getting the common sense right, which is why I gave up pursuing CFA at level 3, you don't need one to be successful in investment.


1 posts

Posted by 86mmc > 2016-03-25 22:20 | Report Abuse

Hi, I am new here. I can't get the total value 1361458. Do you mind showing me the steps? Thanks


413 posts

Posted by shinado > 2016-03-25 22:30 | Report Abuse

Hi 86mmc, look at the last table above. We add the Present Value for year 1, 2, 3, 4, 5 & Terminal Value to get the figure.

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