So once we’ve valued the company (using our multiples, constant-growth formula, or our discounted cash flow analysis) we have to do some refining to end up with our target stock price. Follow the steps below using the links.
- Part (a) – The Margin of Safety.
Click here for the margin of safety info page. So here we’re going to multiply the total value of the company by 1 minus your chosen margin of safety. For example, if you find the company to be worth $10billion, and your MoS (safety buffer) is 30%, then you’ll do: $10b x (1-30%) = $7b.
Remember, our MoS is the safety buffer we want, so don’t multiply your total value by the margin of safety, you need to multiply it by (1-[margin of safety]).
b. Part (b) – Find How Much of the Total Value is for Shareholders.
When we calculate the total value of a company, it includes both the shareholders and the debt-holders. If a company has debt that it owes debt holders, this won’t reach the shareholders, it will be paid back to the debt holders (with interest). There’s also money that’s owed to landlords for long-term leases, and a whole host of other people. So we need to find out how much of the total value is purely for the shareholders – we’ll call this the shareholder value of the company.
There’s two ways of doing this – click each link to learn more. I recommend using both methods and just seeing which approach gives you a higher number for the shareholder value of the company.
- Cash-Debt Method – this is the much easier way.
- Liquidation Method – this is a little more effort but is also more comprehensive
Remember, for all the stocks on this website there will be an excel spreadsheet which does all the number-crunching for you so don’t stress about all this, it’s just so you know what’s going on.
c. Part (c) – Find the Stock Price.
So once we’ve calculated the total value of the company to shareholders (shareholder value), we then simply divide this number by the total number of shares in the company. We can get this number from their last annual report, or you can just google it.
Stock Price = (Total Value of Company to Shareholders)/(Total Number of Shares)
There you have it! You’ve done it. Now hopefully those hours of effort can make you thousands of dollars – that’s a lot easier than full-time work, isn’t it?