How far is the Public Joint Stock Company “Second Generator of the Wholesale Electric Power Market” (MCX: OGKB) from its intrinsic value? Using the most recent financial data, we’ll examine whether the stock price is fair by taking expected future cash flows and discounting them to today’s value. One way to do this is to use the Discounted Cash Flow (DCF) model. Believe it or not, it’s not too hard to follow, as you will see in our example!
There are many ways businesses can be assessed, so we would like to point out that a DCF is not perfect for all situations. If you still have burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
Check Out Our Latest Analysis For The Second Generation Company In The Electric Power Wholesale Market
The model
We use the 2-step growth model, which simply means that we take into account two stages of business growth. During the initial period, the business can have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To begin with, we need to estimate the next ten years of cash flow. Where possible, we use analyst estimates, but when these are not available, we extrapolate the previous free cash flow (FCF) from the last estimate or stated 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 down more in the early years than in subsequent years.
In general, 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:
10-year Free Cash Flow (FCF) estimate
2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | |
Leverage FCF (RUB, Millions) | ₽23.2b | ₽22.1b | ₽21.6b | ₽5.20b | 4.21b | 3.75b | ₽3.54b | ₽3.48b | ₽3.51b | ₽3.62b |
Source of estimated growth rate | Analyst x1 | Analyst x1 | Analyst x1 | Analyst x1 | Is @ -18.96% | Is @ -11.07% | Is @ -5.56% | Is @ -1.69% | Is @ 1.01% | Is 2.9% |
Present value (RUB, millions) discounted at 12% | 20.7k | 17.5k | 15.2k | 3.3k | ₽2.4k | ₽1.9k | ₽1.6k | ₽1.4k | ₽1.2k | ₽1.1k |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year present value of cash flows (PVCF) = 66b
We now need to calculate the Terminal Value, which takes into account all future cash flows after this ten year period. 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 used the 5-year average of the 10-year government bond yield (7.3%) to estimate future growth. Similar to the 10-year “growth” period, we discount future cash flows to their present value, using a cost of equity of 12%.
Terminal value (TV)= FCF_{2031} × (1 + g) ÷ (r – g) = 3.6b × (1 + 7.3%) ÷ (12% – 7.3%) = ₽78b
Present value of terminal value (PVTV)= TV / (1 + r)^{ten}= ₽78b ÷ (1 + 12%)^{ten}= 24b
The total value is the sum of the cash flows for the next ten years plus the present terminal value, which gives the total value of equity, which in this case is ₽91b. The last step is then to divide the equity value by the number of shares outstanding. From the current stock price of 0.6, the company appears to be slightly undervalued at a 22% discount from where the stock price is currently trading. The assumptions in any calculation have a big impact on the valuation, so it’s best to take this as a rough estimate, not precise down to the last penny.
Important assumptions
We draw your attention to the fact that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. Part of investing is coming up with your own assessment of a company’s future performance, so try the math yourself and check your own assumptions. 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 full picture of a company’s potential performance. Since we consider the second largest generator in the wholesale electricity market 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 12%, which is based on a leverage beta of 0.800. Beta is a measure of the volatility of a stock relative to the market as a whole. We get our beta from the industry average beta of comparable companies globally, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable company.
To move on :
While important, calculating DCF ideally won’t be the only piece of analysis you’ll look at for a business. The DCF model is not a perfect stock assessment tool. Instead, the best use of a DCF model is to test certain assumptions and theories to see if they would lead to undervaluation or overvaluation of the company. If a business grows at a different rate, or if its cost of equity or risk-free rate changes sharply, output can be very different. Can we understand why the company trades at a discount to its intrinsic value? For the second generation company in the wholesale electric power market, you need to assess three more factors:
- Risks: For example, we have identified 2 warning signs for the second generation company in the wholesale electricity market (1 makes us a little uncomfortable) you need to be aware of this.
- Future benefits: How does OGKB’s growth rate compare to that of its peers and the broader market? Dig deeper into the analyst consensus number for years to come by interacting with our free analyst growth expectations chart.
- Other high quality alternatives: Do you like a good all-rounder? Explore our interactive list of high-quality stocks to get a feel for what you might be missing!
PS. Simply Wall St updates its DCF calculation for every Russian stock every day, 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 using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St has no position in any of the stocks mentioned.
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