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|
Once we have the correct picture of earnings we can calculate a key component of intrinsic value:
Normalised Return on Equity (NROE)
[Opening Equity + (new net ordinary equity/2)]
= 34.6 / (71.8 + ( 0 / 2))
= 34.6 / 71.8
Adopted NROE: 49%
Next, we require an appropriate Payout Ratio (PR):
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
=0.49 / 0.135
b. The Growth Component
= ( 0.49^2) / (0.135^2)
= 0.24 / 0.018225
Adjusting for the Payout Ratio (PR)
i. Bond Component (for D)
= 3.630 x 80%
ii. Growth Component (for RI)
= 13.169 x (1 – 80%)
Equity Multiplier is the sum of ‘i’ plus ‘ii’
= 2.904 + 2.634
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.
= $4.72 x 5.538
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Read more about Value Investing | Key factors when valuing a stock