# Estimating a share’s intrinsic value 101

Discussion in 'Other Asset Classes' started by Redwing, 28th Jun, 2015.

Join Australia's most dynamic and respected property investment community
1. ### RedwingWell-Known Member

Joined:
18th Jun, 2015
Posts:
1,898
Location:
WA
Has Intrinsic Value moved to Property Chat yet?

In my previous article on thinking rationally about shares, I outlined the case for buying quality companies at a discount to intrinsic value. But what is that? The basic formula for estimating intrinsic value, using an approach called excess returns, is simple arithmetic. It compares the return generated by the business’s equity to the return that an investor should reasonably expect from a share market investment and uses the result to determine what premium to pay for the equity. The formula is:

(Return on Equity / Required Return) X Equity = Intrinsic Value Estimate

To obtain intrinsic value per share, divide the result by the number of shares on issue.

While the division and multiplication are simple, producing a straight line model with its own set of limitations and determining the inputs requires some thought. It’s a case of garbage in, garbage out. When Berkshire’s Charlie Munger was asked what made him such a successful investor, he responded by offering “My guesses are better than yours.”