Xiaomi Corporation Intrinsic Value Estimate (HKG:1810)

Today we are going to do a simple overview of a valuation method used to estimate the attractiveness of Xiaomi Corporation (HKG:1810) as an investment opportunity by taking expected future cash flows and discounting them to their current value. Our analysis will use the discounted cash flow (DCF) model. There really isn’t much to do, although it may seem quite complex.

Remember though that there are many ways to estimate the value of a business and a DCF is just one method. For those who are passionate about stock analysis, the Simply Wall St analysis template here may interest you.

See our latest analysis for Xiaomi

crush numbers

We use the 2-stage growth model, which simply means that we consider two stages of business growth. In the initial period, the company may have a higher growth rate, and the second stage is generally assumed to have a stable growth rate. To start, we need to estimate the cash flows for the next ten years. Wherever possible, we use analysts’ estimates, but where these are not available, we extrapolate the previous free cash flow (FCF) from the latest estimate or reported value. We assume that companies with decreasing free cash flow will slow their rate of contraction and companies with increasing free cash flow will see their growth rate slow during this period. We do this to reflect the fact that growth tends to slow more in early years than in later years.

Generally, we assume that a dollar today is worth more than a dollar in the future, so we discount the value of these future cash flows to their estimated value in today’s dollars:

Estimated free cash flow (FCF) over 10 years

2022 2023 2024 2025 2026 2027 2028 2029 2030 2031
Leveraged FCF (CN¥, Million) CN¥21.3b CN¥22.5b CN¥28.8b CN¥26.0b CN¥20.4b CN¥19.9b CN¥19.7b CN¥19.6b CN¥19.7b CN¥19.8b
Growth rate estimate Source Analyst x9 Analyst x10 Analyst x5 Analyst x2 Analyst x1 East @ -2.19% Is @ -1.09% Is @ -0.32% Is at 0.22% Is at 0.6%
Present value (CN¥, million) discounted at 7.2% CN¥19.9k CN¥19.6k CN¥23.4k CN¥19.7k CN¥14.4k CN¥13.2k CN¥12.1k CN¥11.3k CN¥10.6k CN¥9.9k

(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = CN¥154b

The second stage is also known as the terminal value, it is the cash flow of the business after the first stage. For a number of reasons, a very conservative growth rate is used which cannot exceed that of a country’s GDP growth. In this case, we used the 5-year average of the 10-year government bond yield (1.5%) to estimate future growth. Similar to the 10-year “growth” period, we discount future cash flows to present value, using a cost of equity of 7.2%.

Terminal value (TV)= FCF2031 × (1 + g) ÷ (r – g) = CN¥20b × (1 + 1.5%) ÷ (7.2%– 1.5%) = CN¥354b

Present value of terminal value (PVTV)= TV / (1 + r)ten= CN¥354b÷ ( 1 + 7.2%)ten= CN¥177b

The total value is the sum of the cash flows for the next ten years plus the present terminal value, which gives the total equity value, which in this case is 331 billion Canadian yen. The final step is to divide the equity value by the number of shares outstanding. Compared to the current share price of HK$14.4, the company appears to be about fair value at a 12% discount to the current share price. Ratings are imprecise instruments, however, much like a telescope – move a few degrees and end up in a different galaxy. Keep that in mind.

SEHK: 1810 Cash Flow Update March 26, 2022

The hypotheses

Now, 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 entries, I recommend that you redo the calculations yourself and play around with them. The DCF also does not take into account the possible cyclicality of an industry or the future capital needs of a company, so it does not give a complete picture of a company’s potential performance. Since we consider Xiaomi 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 takes debt into account. In this calculation, we used 7.2%, which is based on a leveraged beta of 1.149. Beta is a measure of a stock’s volatility relative to the market as a whole. We derive our beta from the average industry beta of broadly comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable company.

Next steps:

Although important, the DCF calculation is just one of many factors you need to assess for a business. It is not possible to obtain an infallible valuation with a DCF model. Preferably, you would apply different cases and assumptions and see their impact on the valuation of the business. For example, if the terminal value growth rate is adjusted slightly, it can significantly change the overall result. For Xiaomi, we have compiled three fundamental factors that you should consider in more detail:

  1. Risks: We think you should rate 2 warning signs for Xiaomi we reported before investing in the company.
  2. Future earnings: How does 1810’s growth rate compare to its peers and the market in general? Dive deeper into the analyst consensus figure for the coming years by interacting with our free analyst growth forecast chart.
  3. Other high-quality alternatives: Do you like a good all-rounder? Explore our interactive list of high-quality actions to get an idea of ​​what you might be missing!

PS. Simply Wall St updates its DCF calculation for every Hong Kong stock daily, so if you want to find the intrinsic value of any other stock, just search here.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

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