How to Quickly Value Any Stock – The Value Hackers Guide

One of the simplest and at the same time, most difficult aspects of investing is trying to figure out exactly what price you should pay to buy that stock you’re looking at, right?!

We all know that VALUE is crucial when making ANY investment. But how can we find that value, and more importantly, how can we actually have enough confidence in what we find to take action on it?!

What if all the heavy lifting was already done for you?

What if there was a simple, quick (and easy) way to look at ANY Stock and figure out the EXACT price you should pay to buy it?

Well lucky for us, there is!

Charlie Munger, one of my all time favorite investors, has some important advice for us when we’re trying to solve any difficult or complex problem. He tells us to be like the mathematician Carl Jacobi and:

“Invert Always Invert“

In other words, instead of trying to find the solution, we start with it, and work backwards instead!

It’s flipping the problem on its head and instead of trying to find the fair value, we instead use the current price and works backwards by asking:

“If the current stock price was in fact, the fair price, what assumptions would have to be made to get here?”

Well it’s not the discount ra difficult Instead of trying to choose the growth rate for the stock your analyzing, you instead already knew what was priced into it.

In other words, you could reverse engineer the entire problem by figuring out what Growth Assumptions are already built into the stock price.

That would be pretty awesome, right?

Well, good news my friend… You can!

Next Level Side Note (NLSN): ANY valuation will only ever be a rough estimate of what the company’s future value COULD be.

And that Value is ONLY as reliable as the numbers you put into it.

There are a Lot of assumptions that go into using any sort of future value calculation. In fact, the more complex the calculation, the more assumptions you need, (and usually the more illusion of control you end up having…)

The truth is… The more conservative you are about the future, the more likely you are to succeed IF you’re able to buy in at that conservative valuation.

This is why Buffett, Munger, Pabrai, etc. Essentially all the best investors on the planet, demand a large Margin of Safety BEOFRE they make any purchase. They know that if they buy well below fair value, then the odds will be heavily stacked in their favor.
We want to do the same.

Because here’s the thing… the hardest part of doing any valuations isn’t actually plugging in the numbers…

The MOST difficult part is actually CHOOSING your inputs.
Specifically, there is ONE input that outranks all others in this calculation. It is the most important, and most deterministic to not only your investing results, but to the accuracy of the calculation!

Can you guess what it is?

One of my favorite ways to do this is by doing something called a ‘Reverse Engineered Discount Cash Flow Analysis (or reverse engineered DCF).

It’s one of the quickest and easiest ways to tell if a stock offers value at its current price. All based on your own personal investing goals.

The Simple Discount Cash Flow (DCF) Calculation

A DCF works the same as trying to solve any math equation… And don’t worry, you don’t need to have a calculator for a brain to figure this out. In fact, I encourage you to use every shortcut and ‘Value Hack’ at your disposal (like I do…).

However, I think it’s helpful to know what goes into the equation so you understand what’s coming out…

Again, think of it like solving for the unknown variable.

Normally with a DCF what we’re trying to solve for is the stock price/fair value right?

We choose the inputs, A, B, C and solve for D.
As long as we have our 3 variables, solving for the 4th is simple.

What a DCF calculation does is it helps you figure out what price you should pay TODAY, for what the company will be sometime out in the future (usually 10 years).

Essentially we are estimating that future business, and then discounting that future back to today to find the fair price to pay. (yes… That did rhyme!)

Plug all of this in and you’ll have just figured out the fair price/value for the stock you’re looking at.

Sweet!

With the Reverse Engineered DCF, instead of trying to find the stock price, we are using the current stock price, and solving for the estimated future growth rate instead (#2 above).
As long as we have three of the four variables you can solve for any one variable.
Makes sense right!? 

Value Hack!
You don’t have to memorize some advanced Formula here… There are multiple free online resources to run a simple DCF calculation. How?
Simple: Head to google, type in your stock ticker symbol and add ‘DCF’ behind it.
Eg. Search ‘FB DCF’

The magic of this is that it shows you the CURRENT Growth rate that the Market already has baked into the price of the stock right now.

It does this by using the current earnings or FCF, the stock price and your chosen discount rate then works backwards to tell you the current growth rate for the business that’s already priced into the stock.

If you adjust your discount rate up, and the ‘baked in’ growth rate goes up. Adjust the discount rate down, the ‘baked in’ growth rate drops as well.

Another way of looking at this is that if you pay todays stock price, the reverse Engineered DCF tells you the growth rate the company MUST achieve in order for you to achieve your desired growth rate on your money. Something I call your Minimum accepted Growth Rate or your MAG and the industry calls the discount rate.
 

What to Look For with a Reverse Engineered DCF

The larger the divergence between what the future growth rate of the business (through the 10 year historical growth and your own analysis) the bigger the mismatch between price and value. (Eg. Much higher historical growth compared to Reverse Engineered Growth Rate).

Want an example?

If we look at Facebook at the price of $230.
FCF of $13.72 Per share
Discount rate of 12%

We get a ‘baked in’ reverse engineered growth rate of 11.96%.

Here’s the quick Snapshot:

Quick Facebook/Meta (FB) stock analysis

What this really means:

In order to make a 12% return per year over the next 10 years (annualized Return On Investment…) FB (META) will have to grow it’s Free Cash Flows by roughly 12% per year.

Check that against it’s historical reality and you’ll see FB has been able to grow it’s FCF at an average of 45.6% per year over the last 10 years. This is the direction of divergence you’re looking for.

You want a higher historical FCF growth then your required future growth. The bigger the divergence, the larger your margin of safety that your MAG will be achieved.

So with only this information, you could say that a 12% Growth rate on FCF for Facebook is a conservative estimate, right?

What Growth Rate would you need if you bumped up your Discount Rate (AKA your Minimum Accepted Growth) to 16%?
= 17% Required Future FCF growth

Scenario #3: Discount rate only 8%?
= Only 6.84% FCF growth

You can probably see that there might just be a good Margin Of Safety built in if we can buy FB at $230.

Quick Apple Stock Analysis

Let’s compare what we found with FB to what the market is offering for Apple stock shares (Ticker AAPL):

Notice how the Required growth rate is HIGHER than the 10 year average by a substantial amount. This is a red flag. The company would have to grow much faster than it’s 10 year average in order for you to achieve your Minimum Accepted Growth.

Add in the fact that this is already one of the largest businesses on the planet, and the bigger something is, the slower the growth tends to be. You want to have as many elements in your favor as possible before you make any investment.

NLSN: For every investment you say YES to is a NO to another investment…

The better the future potential and current value proposition a stock has, the faster you’re money is likely to grow.

This is known as the Velocity of Money. Choosing a stock with a much lower potential velocity impacts your entire portfolio, pulling down your future Return On Investment.

Now you might be saying that you Love Apple (AAPL) and everything about it. It’s a truly wonderful business and you’d love to own a piece of it. That’s great! One of the most important factors for you as an Aspiring NLI is that you actually like the company you’re investing in.

However… Just because a company is great, doesn’t mean it’s a great investment.

Value is essential. Remember that Price is what you pay but VALUE is what you’re actually paying for. Therefore, the higher the price relative to Value, the worse your return will be.

What Price should you pay to buy AAPL?

Well this is where it’s fun to play with the numbers. You don’t want to lower your standards as an investor (your discount rate should not go down over time to make an investment work for you). so all that’s left is the Price you should pay.

In this case, in order to drop AAPL below it’s historical FCF growth rate you’d need to be patient. Patient enough for the stock price to drop down:

This is a starting place…

This is one of the places I like to start BEFORE moving onto the actual analysis. In fact, this is One of our favorite coveted ‘Value Hacks’.
My students and I use this as one of the most powerful time savers to confirm if it’s worth our time and to get EXCITED to dive in and do the analysis.

Because let’s be honest…
unless you’re a huge Investing Nerd like me, you probably don’t love doing the analysis.

But we both know that unless you know what makes a good investment, you won’t actually know if you’re making a good investment!

However, when you know there is a high probability that you could make a lot of money on the investment, you’re basically paying yourself to put in the work, right?!

If this quick Reverse Engineered DCF passes the test, this is when you’d take the next step forward in your stock analysis.

The Full Stock Analysis
(What actually matters…)

After 12 years+ of investing, one of the most surprising truths I’ve had to learn (sometimes the hard way… because well, I’m stubborn…) is that EVERYHTING is important, but nothing is really MOST important…

You can think of each piece of your analysis like adding another piece to a puzzle. The more pieces you have, the more complete the final image will be and the better your ability to distinguish what the picture will actually become. However, you can never have 100% of the pieces because some of them simply haven’t been created yet. So we collect as many as possible until we have one incredibly important thing;

CONVICTION.

Not exactly what you expected right?!
Without it, you will never reach your full potential as an investor on ANY investment. It’s what allows you to hold during the volatility, Buy during the drops, and sometime most important, (and most difficult) hold as the stock continues to go up and up. Because this is the only way to get those 10X to 100X investments. You need iron coated conviction. The more confident you are in your actual analysis, the more conviction you’ll have.

Makes sense right?

You need to collect the knoweldge, using a proven process, have confidence in what you found to have conviction in your conclusions as an investor. I could write a literal book on the subject, but the whole point of having a repeatable, reusable and proven process is to simplify your path to conviction and ultimately making the RIGHT decision on every investment you come up against.

The truth is, most investors (average investors…) are out there trying to guess at what the picture will be with only one or two pieces of the puzzle. No wonder they end up buying high and selling low. How much confidence can you have when you don’t even really know what you’re looking at right?!

But that’s a discussion for another time… Here’s a quick snapshot of what our proven investing process looks like…

G- Gather the Greats

A – Ask and Answer Analysis

M – Mind the Moat

M – Meet the Management

E – Identify the Event

R – Rational Reversal and Reduction

S – Set the Sale

Every piece of this is crucial to confirm or reject our assumptions when doing a regular Discounted Cash Flow Analysis, or doing our fun Reverse Engineered DCF.

Without it, we are relying solely on the past to predict the future. And the future may rhyme with the past, but that doesn’t mean we’ll like the sound of it…

Last Side note… (is that too many side notes?) Your main goal when looking at ANY investment is trying to say NO as quickly and efficiently as possible.

This is part of what it means to be an Empowered, Next-Level Investor. Let’s face it, we don’t have a team, or unlimited resources. You have limited time to spend on any company, and absolutely no time to waste on one that doesn’t.

So if one of theses pieces doesn’t line-up or gives you pause, it’s time to move on.
Simple as that.

Fun stuff right?!

Anyways, our son just woke up from a nap so I gotta go!

It’s been good chatting with you,
Talk again soon,

~ Ryan Chudyk ~


PS.
And don’t forget,
you’re just One Investment Away…