DCF valuation with a terminal growth below inflation
You are a junior analyst at a Korean asset manager covering Daehan Chemicals. The company reported 2025 EBITDA of 480 billion KRW and depreciation and amortization of 120 billion KRW. Capex was 150 billion KRW, and the increase in net working capital was 30 billion KRW. The statutory corporate tax rate is 24.2%, and the company expects no operating losses. Net debt is 900 billion KRW, and there are 80 million shares outstanding. Management guides that current free cash flow to the firm is normalized and will be flat for the next five years; after that, a terminal growth rate of 1.0% applies. Your team uses a WACC of 9.0%. The head of research asks you to prepare a fair-value estimate and to justify the terminal growth assumption at a time when the Bank of Korea’s inflation target is 2.0% and the company’s main product is facing Chinese overcapacity. The shares trade at 18,000 KRW.
1. Calculate FCFF, enterprise value, equity value, and fair value per share. Show the formulas and units.
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FCFF calculation. EBIT = EBITDA 480 − D&A 120 = 360 billion KRW. Tax = 24.2% × 360 = 87.1. NOPAT = 272.9. Add back D&A: 392.9. Subtract capex 150: 242.9. Subtract the increase in net working capital 30: FCFF = 212.9 billion KRW.
Because management says this is normalized and flat for five years, FCFF1–5 = 212.9. The five-year annuity factor at 9% is 3.8897, so PV of explicit FCFF = 828.5 billion. Terminal value at year 5 = 212.9 × 1.01 / (0.09 − 0.01) = 2,689.1 billion. PV of TV = 2,689.1 / 1.09^5 = 2,689.1 / 1.5386 = 1,747.7 billion. EV = 828.5 + 1,747.7 = 2,576.2 billion. Equity value = 2,576.2 − 900 = 1,676.2 billion. Per share = 1,676.2 / 80 million = 20,952 KRW.
2. Critique the 1.0% terminal growth assumption. What proportion of value is terminal value, and how does value change if g is 0% or 2%?
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Terminal value is 67.8% of EV (1,747.7 / 2,576.2). That is not automatically wrong, but the 1.0% growth assumption needs justification. The Bank of Korea's inflation target is 2.0%, so 1.0% nominal growth implies roughly a 1% real decline forever. For a chemical company facing Chinese overcapacity, that may be conservative, but it is a strong claim about permanent excess capacity. A defensible approach is to set terminal growth at 0–2%, show the sensitivity, and cross-check with an exit multiple.
Sensitivity: at g = 0%, TV = 212.9 / 0.09 = 2,365.6; PV = 1,537.5; EV = 2,366.0; equity = 1,466.0; per share = 18,325 KRW. At g = 2%, TV = 212.9 × 1.02 / 0.07 = 3,102.3; PV = 2,016.3; EV = 2,844.8; equity = 1,944.8; per share = 24,310 KRW. A 1 percentage point change in g moves value by about 6,000 KRW per share, so the recommendation is highly sensitive to a single assumption.
3. Given the market price of 18,000 KRW, what recommendation would you make, and what further checks are needed?
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At 18,000 KRW, the base-case value of 20,952 implies 16.4% upside. But at g = 0% the value is 18,325, only 1.8% above the market price. The investment case therefore depends on the terminal growth assumption, not on the near-term cash flow. A prudent recommendation is Hold/Neutral with a clear sensitivity table, not Buy, unless the analyst has company-specific evidence that the overcapacity is temporary and that Daehan can grow at least with inflation.
The analyst should also check whether capex of 150 billion is maintenance or growth capex; if growth capex is expensed in FCFF but will generate future growth, the flat-FCFF assumption may understate value. Conversely, if Chinese overcapacity persists, the 1% terminal growth is too generous. The head of research should require an exit-multiple cross-check and a downside case.