putting it all together

12
Placing a Value on a Company: Putting It All Together Together Your Desired Rate of Return

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Post on 25-May-2015

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This video shows how people come up with a stocks value based on its Earnings Per Share, Price Earnings Ratio, and Desired Rate Of Return

TRANSCRIPT

Page 1: Putting It All Together

Placing a Value on a

Company: Putting It All

TogetherTogether

Your Desired Rate of Return

Page 2: Putting It All Together

� You have identified a solid company that has been

increasing sales and profits consistently. You realize

that the company has a strong balance sheet and

little debt. You have performed the applicable

financial ratios.

Putting it all Together

Page 3: Putting It All Together

� In addition to that, you find that the EPS has been

increasing by average of 10% each year for the last

ten years:

• Last year’s EPS was $1.00 per share.

• You can reasonably predict, based on past

performance, that this years EPS will be $1.10 (1.00 x

Putting it all Together, cont’d

performance, that this years EPS will be $1.10 (1.00 x

1.10)

• You can also reasonably project that in five years the

EPS will be about $1.61

(See the Charts on the Following Slides)

Page 4: Putting It All Together

Year EPS

1 $1.10 (1.00 x 1.10)

2 $1.21 (1.10 x 1.10)

Putting it all Together, cont’d

� Company Performance:

3 $1.33 (1.21 x 1.10)

4 $1.46 (1.33 x 1.10)

5 $1.61 (1.46 x 1.10)

Page 5: Putting It All Together

11.1

1.211.33

1.46

1

1.2

1.4

1.6

Putting it all Together, cont’d

� Company Performance:

0

0.2

0.4

0.6

0.8

1

Year 1 Year 2 Year 3 Year 4 Year 5

Page 6: Putting It All Together

� You also determine that the average P/E ratio is 26.

� From this information you can reasonably project

that in year 5 this stock will be worth $41.00 per

share (1.61 x 26).

� If the stock is currently trading at price lower than

Putting it all Together, cont’d

� If the stock is currently trading at price lower than

$41.00, then this is a good buy. However if the stock

is trading at a price higher than $41.00, this may not

be such a good buy.

Page 7: Putting It All Together

YOUR

DESIRED RATE

OF RETURN

Page 8: Putting It All Together

� The price you pay for something determines your

rate of return. This is why we negotiate prices for

everything. Remember that the lower the price that

you pay for something, then the higher your rate of

return.

Your Desired Rate of Return

Page 9: Putting It All Together

� How much you want to earn is

entirely up to you. If you desire

a 10% rate of return on your

investment, then you will have

to find investments that will

potentially yield a 10% return.

Your Desired Rate of Return, cont’d

potentially yield a 10% return.

Page 10: Putting It All Together

� From the earlier example, you predict that the

market price of this stock will be $41.00 in year 5.

� The market price is currently $25.00 per share.

� If you were to buy at $25 per share, you will

potentially have a capital gain of $16 per share

Your Desired Rate of Return, cont’d

potentially have a capital gain of $16 per share

($41.00 - $25.00) after four years. This is an annual

rate of return of about 13%.

Page 11: Putting It All Together

� From your desired rate of return, you can place your

own value on a company based on your research.

• Let’s say that you want to earn at least 10% annually

on all of your investments. From the earlier example

you are only willing to pay only $28.00 for that stock

that has a potential future value of $41.00 in four

Your Desired Rate of Return, cont’d

that has a potential future value of $41.00 in four

years.

• If the stock is trading higher than what you are willing

to pay, then do not buy. If it is trading lower than what

you are willing to pay, then you might want to “back

the truck up”.

Page 12: Putting It All Together

� In order to place a value on a company, you need to determine if the performance is reasonably predictable. Secondly, find out the EPS for the last five to ten years. Determine the percent of increase for EPS each year and take the average. From this you can predict future earnings per share. Thirdly, find the average P/E ratio for the company. Based on average P/E ratio along with the

In Summary:

the company. Based on average P/E ratio along with the projected earnings per share, you can reasonably gauge the future market value of a company. Finally, determine the rate of return that you want on your investment. From your desired rate of return and research you will be able to set a price that you are willing to pay for a particular stock.