Investors Are Undervaluing GreenTree Hospitality Group Ltd. (NYSE:GHG) By 22.6%

Jason Fuller - finance.yahoo.com Posted 5 years ago
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Today I will be providing a simple run through of a valuation method used to estimate the attractiveness of GreenTree Hospitality Group Ltd. (NYSE:GHG) as an investment opportunity by projecting its future cash flows and then discounting them to today’s value. I will use the Discounted Cash Flows (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model. If you are reading this and its not February 2019 then I highly recommend you check out the latest calculation for GreenTree Hospitality Group by following the link below.

Check out our latest analysis for GreenTree Hospitality Group

Crunching the numbers

I’m using the 2-stage growth model, which simply means we take in account two stages of company’s growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have perpetual stable growth rate. In the first stage we need to estimate the cash flows to the business over the next five years. For this I used the consensus of the analysts covering the stock, as you can see below. The sum of these cash flows is then discounted to today’s value.

5-year cash flow estimate

2019 2020 2021 2022 2023
Levered FCF (CNÂ¥, Millions) CNÂ¥455.00 CNÂ¥530.00 CNÂ¥643.91 CNÂ¥727.38 CNÂ¥821.66
Source Analyst x1 Analyst x1 Analyst x1 Est @ 12.96% Est @ 12.96%
Present Value Discounted @ 9.78% CNÂ¥414.47 CNÂ¥439.78 CNÂ¥486.70 CNÂ¥500.81 CNÂ¥515.33

Present Value of 5-year Cash Flow (PVCF)= CNÂ¥2.4b

After calculating the present value of future cash flows in the intial 5-year period we need to calculate the Terminal Value, which accounts for all the future cash flows beyond the first stage. For a number of reasons a very conservative growth rate is used that cannot exceed that of the GDP. In this case I have used the 10-year government bond rate (2.7%). In the same way as with the 5-year ‘growth’ period, we discount this to today’s value at a cost of equity of 9.8%.

Terminal Value (TV) = FCF2023 × (1 + g) ÷ (r – g) = CN¥822m × (1 + 2.7%) ÷ (9.8% – 2.7%) = CN¥12b

Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = CN¥12b ÷ ( 1 + 9.8%)5 = CN¥7.5b

The total value is the sum of cash flows for the next five years and the discounted terminal value, which results in the Total Equity Value, which in this case is CNÂ¥9.9b. In the final step we divide the equity value by the number of shares outstanding. If the stock is an depositary receipt (represents a specified number of shares in a foreign corporation) or ADR then we use the equivalent number. This results in an intrinsic value of $14.35. Compared to the current share price of $11.11, the stock is about right, perhaps slightly undervalued at a 23% discount to what it is available for right now.

NYSE:GHG Intrinsic Value Export February 18th 19
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The 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 my result, have a go at the calculation yourself and play with the assumptions. Because we are looking at GreenTree Hospitality Group as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 9.8%, which is based on a levered beta of 0.970. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.

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Next Steps:

Although the valuation of a company is important, it shouldn’t be the only metric you look at when researching a company. What is the reason for the share price to differ from the intrinsic value? For GHG, I’ve compiled three important aspects you should further examine:

  1. Financial Health: Does GHG have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
  2. Future Earnings: How does GHG’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 High Quality Alternatives: Are there other high quality stocks you could be holding instead of GHG? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!

PS. Simply Wall St does a DCF calculation for every US stock every 6 hours, so if you want to find the intrinsic value of any other stock just search here.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at [email protected]. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. On rare occasion, data errors may occur. Thank you for reading.