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A Look At The Fair Value Of United-Guardian, Inc. (NASDAQ:UG)

Key Insights

  • Using the 2 Stage Free Cash Flow to Equity, United-Guardian fair value estimate is US$10.57

  • United-Guardian's US$9.50 share price indicates it is trading at similar levels as its fair value estimate

  • The average premium for United-Guardian's competitorsis currently 72%

In this article we are going to estimate the intrinsic value of United-Guardian, Inc. (NASDAQ:UG) by projecting its future cash flows and then discounting them to today's value. Our analysis will employ the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

See our latest analysis for United-Guardian

The Model

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. To begin with, we have to get estimates of the next ten years of cash flows. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last 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 ($, Millions)

US$2.61m

US$2.74m

US$2.86m

US$2.97m

US$3.06m

US$3.15m

US$3.23m

US$3.31m

US$3.39m

US$3.47m

Growth Rate Estimate Source

Est @ 6.60%

Est @ 5.26%

Est @ 4.31%

Est @ 3.65%

Est @ 3.19%

Est @ 2.87%

Est @ 2.64%

Est @ 2.48%

Est @ 2.37%

Est @ 2.29%

Present Value ($, Millions) Discounted @ 7.9%

US$2.4

US$2.4

US$2.3

US$2.2

US$2.1

US$2.0

US$1.9

US$1.8

US$1.7

US$1.6

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$20m

The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 7.9%.

Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US$3.5m× (1 + 2.1%) ÷ (7.9%– 2.1%) = US$61m

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$61m÷ ( 1 + 7.9%)10= US$28m

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is US$49m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of US$9.5, the company appears about fair value at a 10% discount to where the stock price trades currently. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.

dcf
dcf

Important Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 United-Guardian 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 7.9%, which is based on a levered beta of 0.982. 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 United-Guardian

Strength

  • Currently debt free.

  • Dividend is in the top 25% of dividend payers in the market.

Weakness

  • Earnings declined over the past year.

Opportunity

  • Current share price is below our estimate of fair value.

  • Lack of analyst coverage makes it difficult to determine UG's earnings prospects.

Threat

  • Dividends are not covered by earnings and cashflows.

Looking Ahead:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For United-Guardian, we've put together three essential elements you should further examine:

  1. Risks: To that end, you should learn about the 4 warning signs we've spotted with United-Guardian (including 2 which are potentially serious) .

  2. 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!

  3. Other Environmentally-Friendly Companies: Concerned about the environment and think consumers will buy eco-friendly products more and more? Browse through our interactive list of companies that are thinking about a greener future to discover some stocks you may not have thought of!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the NASDAQGM every day. If you want to find the calculation for other stocks just search here.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

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