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Explanation

What is Intrinsic Value?

Intrinsic value is a measure of the true worth of a stock, based on an analysis of its fundamentals. It represents the perceived or calculated value of an asset, as opposed to its market value. Investors use intrinsic value to determine whether a stock is undervalued or overvalued in the market.

How to Calculate Intrinsic Value?

The intrinsic value of a stock can be calculated using the following formula:

Intrinsic Value (IV) is calculated as:

§§ IV = \sum_{t=1}^{n} \frac{EPS \times (1 + g)^t}{(1 + r)^t} + \frac{D}{(1 + r)^n} §§

where:

  • § IV § — intrinsic value of the stock
  • § EPS § — current earnings per share (or current stock price)
  • § g § — expected growth rate of earnings (as a decimal)
  • § r § — discount rate (as a decimal)
  • § n § — number of years for the forecast
  • § D § — dividends (if any)

This formula sums the present value of expected future earnings and dividends, discounted back to the present value using the discount rate.

Example Calculation

Let’s say you have the following inputs:

  • Current Stock Price (EPS): $100
  • Expected EPS Growth: 10% (0.10)
  • Discount Rate: 8% (0.08)
  • Number of Years for Forecast: 5
  • Dividends: $2

Using the formula, you would calculate the intrinsic value as follows:

  1. Calculate the present value of expected earnings for each year.
  2. Add the present value of dividends at the end of the forecast period.

When to Use the Intrinsic Value Calculation Calculator?

  1. Investment Decisions: Determine if a stock is undervalued or overvalued based on its intrinsic value.

    • Example: An investor may decide to buy a stock if its intrinsic value is significantly higher than its current market price.

  2. Financial Analysis: Evaluate the potential return on investment for stocks.

    • Example: Analyzing whether a stock’s price is justified based on its expected future earnings.

  3. Portfolio Management: Assess the overall value of a stock portfolio.

    • Example: Adjusting holdings based on the intrinsic value of individual stocks.

  4. Valuation Comparisons: Compare intrinsic values of different stocks within the same industry.

    • Example: Identifying which stocks are more attractive investments based on their intrinsic values.

  5. Long-term Planning: Make informed decisions about long-term investments.

    • Example: Planning for retirement by investing in stocks with strong intrinsic values.

Practical Examples

  • Value Investing: A value investor might use this calculator to find stocks that are trading below their intrinsic value, indicating a potential buying opportunity.
  • Dividend Stocks: An investor interested in dividend-paying stocks can use the calculator to assess whether the dividends justify the stock’s price.
  • Market Analysis: Analysts can use intrinsic value calculations to provide insights into market trends and stock performance.

Definitions of Key Terms

  • Earnings Per Share (EPS): A company’s profit divided by the number of outstanding shares of its common stock. It indicates a company’s profitability.
  • Expected Growth Rate (g): The anticipated rate at which a company’s earnings are expected to grow over a specific period.
  • Discount Rate (r): The rate used to discount future cash flows back to their present value. It reflects the risk of the investment.
  • Dividends (D): Payments made by a corporation to its shareholders, usually in the form of cash or additional shares.

Use the calculator above to input different values and see the intrinsic value change dynamically. The results will help you make informed investment decisions based on the data you have.