# Worked example of Intrinsic Value

Worked example of Intrinsic Value with Blackmores Limited (ASX:BKL)

### Normalised Earnings (\$m)

Grossed-up dividends + Retained Earnings + Change in Reserves Abnormals = Normalised Earnings
27.3 + 8.2 + (-0.9) 0 = 34.6

Once we have the correct picture of earnings we can calculate a key component of intrinsic value:

### Normalised Return on Equity (NROE)

Normalised Earnings

[Opening Equity + (new net ordinary equity/2)]

= 34.6 / (71.8 + ( 0 / 2))
= 34.6 / 71.8
= 48.2%

Next, we require an appropriate Payout Ratio (PR):

Grossed-up Dividends

Normalised Earnings

Once we have calculated our NROE and Payout Ratio we make an assessment of the sustainability of both by considering the industry and the company position. We now have the four variables that are the key to the valuation process.

NROE: The profitability of the business.
Dividends (D): The proportion of profitability paid to owners as dividends. (NROE x PR)
Reinvested (RI): The proportion of profitability reinvested in the business to grow the business (NROE x (1 – PR)) or (NROE – D).
Required Return (RR): The return we need to become owners of the business.

The component parts leading to intrinsic value are:

a. The Bond Component

NROE

RR

=0.49 / 0.135
=3.630

And

b. The Growth Component

NROE^2

RR^2

= ( 0.49^2) / (0.135^2)
= 0.24 / 0.018225
= 13.169

Adjusting for the Payout Ratio (PR)

i. Bond Component (for D)
= 3.630 x 80%
= 2.904

ii. Growth Component (for RI)
= 13.169 x (1 – 80%)
= 2.634

Equity Multiplier is the sum of ‘i’ plus ‘ii’
= 2.904 + 2.634
= 5.538

Equity Per Share: \$4.72

Once the Equity Multiplier has been calculated, the final step is to multiply the Equity per Share for each share on issue by this multiplier.

Intrinsic Value

= \$4.72 x 5.538
= \$26.14

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