# How to Value Stocks

There are several ways to value stocks, including using fundamental analysis, technical analysis, and discounted cash flow analysis.

Fundamental analysis involves looking at the company's financial statements, such as its income statement, balance sheet, and cash flow statement, to determine its overall financial health and future growth prospects.

Technical analysis involves studying charts and historical data to identify patterns and trends that can indicate whether a stock is likely to rise or fall in the future.

Discounted cash flow (DCF) analysis involves estimating the future cash flow a company will generate and then discounting that amount back to its present value. This can give a more accurate picture of a stock's true worth.

Ultimately, the most effective method for valuing a stock will depend on the individual stock and the information available. It's important to consider multiple methods and to do your own research before making any investment decisions.

## How to Determine What a Share of Stock Is Worth

Determining the worth of a share of stock can be a complex process, as the value of a stock is ultimately determined by the market and can fluctuate based on a variety of factors. However, there are several methods that analysts and investors use to estimate the value of a stock, including:

### Absolute (Intrinsic Value)

The intrinsic value of a stock is the underlying or true value of a stock, independent of its market price. It represents the value of a stock based on an underlying perception of its true worth, including all aspects of the business, its assets, and its future prospects.

There are different ways to estimate the intrinsic value of a stock, including:

### Relative (The Comparables Model)

This method involves looking at the financials of similar companies in the same industry to gauge the value of the stock.

## The Dividend Discount Model (DDM) Formula

The Dividend Discount Model (DDM) is a method of valuing a stock that is based on the dividends the stock is expected to pay in the future. The basic idea behind DDM is that the value of a stock is equal to the present value of all future dividends.

To calculate the intrinsic value of a stock using DDM, an analyst will need to estimate the future dividends the stock will pay, the discount rate to be used, and the number of years over which the dividends will be paid.

The formula for DDM is as follows:

Intrinsic Value = (Expected Dividends / (Discount Rate - Dividend Growth Rate))

Expected Dividends: It's an estimation of the future dividends the stock will pay. It can be calculated by taking the company's last dividend per share and projecting it into the future.

Discount Rate: It's the rate at which future cash flows are discounted to their present value.

Dividend Growth Rate: It's the rate at which dividends are expected to grow in the future.

The DDM is a simple and easy way to estimate the intrinsic value of a stock, but it relies on accurate estimates of future dividends, discount rate, and dividend growth rate. The DDM can be used in conjunction with other methods of stock valuation, such as discounted cash flow analysis, to provide a more accurate picture of a stock's true worth.

## How to Calculate Discounted Cash Flows (DCF)

Discounted cash flow (DCF) analysis is a method used to determine the value of an investment based on its expected cash flows. The basic idea behind DCF is that the value of an investment is the present value of its expected cash flows. To calculate the discounted cash flows, you need to follow these steps:

It is important to note that the accuracy of a discounted cash flow analysis depends on the accuracy of the projected cash flows and the chosen discount rate. Therefore, it's important to use realistic cash flow projections and a conservative discount rate.

## Calculating Earnings Power Value (EPV)

Earnings Power Value (EPV) is a valuation method that is used to determine the intrinsic value of a company by focusing on its earning power. The EPV formula is used to calculate the present value of future earnings. The basic idea behind EPV is that a company's true worth is determined by its ability to generate earnings, rather than by its assets or revenues.

To calculate the Earnings Power Value of a company, you need to follow these steps:

It's important to note that EPV is a relative measure, and it should be used in conjunction with other valuation methods. Additionally, it is important to use realistic assumptions while forecasting the EBIT, CoC, and SGR.

## Calculating Weighted Average Cost of Capital

The Weighted Average Cost of Capital (WACC) is a measure of a company's cost of capital in which each category of capital is proportionately weighted. It is used to determine the minimum return a company must generate in order to meet the expectations of its investors. It is also used as a discount rate to calculate the present value of future cash flows in discounted cash flow (DCF) analysis. The WACC is calculated as follows:

WACC = (E/V) * Ce + (D/V) * Cd * (1-Tc)

Where:

It's important to note that the WACC is a long-term average, it should be periodically updated to reflect changes in the company's financing structure and the cost of capital. Additionally, the WACC is sensitive to the cost of each form of capital and the weight of each form of capital, so it is important to use realistic assumptions while calculating it.

## How to Calculate Prices-to-Earnings (P/E) Ratio

The P/E ratio is calculated by dividing the current market price of a stock by its earnings per share. The formula is:

P/E ratio = Market Price per Share / Earnings per Share (EPS)

For example, if a company's stock is currently trading at \$50 per share and its earnings per share for the last 12 months is \$5, the P/E ratio would be:

P/E ratio = \$50 / \$5 = 10

A lower P/E ratio generally indicates that a stock is undervalued, while a higher P/E ratio generally indicates that a stock is overvalued. A P/E ratio of 15 is considered to be average, but it can vary depending on the industry and the stage of the company.

## How to Calculate EV/EBITDA

The formula for EV/EBITDA ratio is:

EV/EBITDA ratio = Enterprise Value / EBITDA

To calculate the EV/EBITDA ratio, you first need to calculate the Enterprise Value (EV) of the company. The EV is the total value of the company, including both debt and equity. It can be calculated using the following formula:

EV = Market Capitalization + Total Debt - Cash and Cash Equivalents

Once the EV is calculated, the EBITDA can be calculated by adding the following elements to the Net Income:

EBITDA = Net Income + Interest + Taxes + Depreciation + Amortization

For example, if a company has an enterprise value of \$500 million, and an EBITDA of \$100 million, the EV/EBITDA ratio would be:

EV/EBITDA ratio = \$500 million / \$100 million = 5

A lower EV/EBITDA ratio generally indicates that a stock is undervalued, while a higher EV/EBITDA ratio generally indicates that a stock is overvalued.

## End of Lesson

Valuing stocks is the process of determining the intrinsic value of a company's stock by analyzing its financial and economic characteristics. There are several methods that can be used to value stocks, including discounted cash flow (DCF) analysis, earnings power value (EPV) analysis, and the price-to-earnings (P/E) ratio.