The word intrinsic comes from the latin intrinsecus meaning “inward”. In modern parlance, intrinsic means “belonging to a thing by its very nature”. The intrinsic value of a stock will thus be very personal to that stock, unique even, and will be totally unrelated to the intrinsic value of another stock. In a sense, intrinsic valuation is the art (and possibly science, depending on how analytic we are) of putting a fair value on current, and more often future returns. It is a very useful tool, and one every value investor should use.
The asset base of a company is a baseline for intrinsic value; on top of that, measured value comes from returns – what the company is doing and is likely to do with that asset base. Intrinsic valuation requires quite a few assumptions, and is never precise – projected values can be vastly different from what is expected.
On our intrinsic value screen, we use the expected growth rate for the next 5 years; how the intrinsic value is calculated is mentioned here:
Also check our intrinsic value stock screen.
Calculating intrinsic value for a stock allows us to assess future returns and risk. The value will tell us if the expected growth is sustainable; for example – Tidewater (TDW) is showing an intrinsic value of $518, with the current price at $50.18. The 5 year growth is expected to be 57% according to analyst estimates, while the industry rate is expected to be around 12% over the same period. Looking at a long-term chart of Tidewater since 1980, the highest price it reached was $71.
So, we have to ask is $518 a realistic price for TDW? But what we should be asking is: is 57% a realistic growth rate for the next 5 years? Doubtful.
In other words, we should use the intrinsic value calculation as a “reality check” while we ask lots of questions – how much growth will this company *really* see? How soon will it happen (what’s our timeframe)? How long will the company maintain the growth? Sometimes less is more…more companies can sustain lower growth rates for a longer time. These types of companies are valuable.
We also want to look for consistency in growth, not companies that engage in boom and bust growth, i.e. a smooth exponential upward curve in growth. If you find one, hang onto it.
In summary, do not use intrinsic value alone to buy stocks, but use it as a “stock tool” for sanity checks in your value investing toolbox.
{ 3 comments… read them below or add one }
A surprisingly insightful article. I generally agree. The hardest part of picking the entry and exit prices for stocks is determining the true value. I wish there was historical fundamental data like technical info.
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I noticed a heading in one of your screens, entitled “Forward Intrinsic Value”.
What is this and how do you calculate a forward intrinsic value for a stock?
You have a great, informative site.
Thank you,
Michael Kindred
Dallas, TX
Hi, Michael:
Please see this description of the intrinsic value calculation.
I use the term “Forward” to imply intrinsic value going forward, since we use the analysts’ estimated growth figure for the next 5 years.