Understanding Valuation of a Company | Stock Market Investing for Beginners

imagine you are in a bustling Market surrounded by various products vying for your attention now think of stocks as these Unique Products each with its own story potential and of course price tag understanding company valuations is like being equipped with a Savvy Shopping Guide in this Dynamic Market why do we care about valuations well it's the key to finding hidden Gems or steering clear away of potential pitfalls just like in the market where you want to pay a fair price for a quality product in stocks we seek to identify whether a company is overvalued or undervalued or just right but before you jump to how to find that one undervalued stock understand the different lenses through which we can view a company each revealing unique facets of its Financial makeup first and the most popular one market value this is like the sticker price on our metaphorical product it tells us what the market thinks the company is worth based on its stock price but remember appearances can be deceiving and sometimes the market might not fully capture the true ense of a company's value enter Enterprise Value our second lens this takes a more comprehensive look by considering not just the stock price but also the company's debt and cash it's like checking the overall cost of our product including any hidden charges to get a more accurate picture lastly we have intrinsic value the Holy Grail of valuations this is like determining the true worth of our product looking Beyond external factors it involves digging deep into a company's fundamentals grow both prospects and future cash flows to arrive at its intrinsic or inherent value let's understand this with the help of an example imagine you are buying a used car or a secondhand car so from a market value point this is the price you see on the cars listing let's say 8 lakh rupees that's what the current market is willing to pay for that particular car coming to Enterprise Value now imagine the car comes with a loan that you need to take over additionally adding 1 lakh Rupees to the total cost therefore the Enterprise value of the car would be 8 lakh rupes of Market Value Plus 1 lakh rupes of debt making it 9 lakh rupees lastly intrinsic value if you research the car's history consider its mileage maintenance and overall condition and estimate its true worth to be 12 lakh rupes now this is what you are doing in terms of assessing intrinsic value this is your estimate of the car's real underlying worth market value is the current price in the market Enterprise Value is a broader measure including debts and other obligations and intrinsic value is an estimate of the true worth based on fundamental factors then there are certain financial ratios that we use to value a company let's take a look at them starting with price to earnings ratio or PE ratio imagine you go to buy a CF facing Penthouse in bandra through which you want to generate an additional rental income you want to make sure that you are paying the right price for that property this is where PE ratio comes in the price to earnings ratio is a financial metric that is commonly used to assess the valuation of a company's stock it's a straightforward ratio that compares the current price of a stock to its earnings per share let's break down this with the help of an example consider a company whose market price is trading at rupees 100 right now and the earnings per share is rupees 10 therefore the PE Ratio will come out to be 10 this means that investors are willing to pay rupees 10 for every one rupee of earnings that are generated by the company a high PE ratio suggests that the market expects strong future growth and is willing to pay a premium for that growth however it also increases the risk as the company needs to meet these high expectations a low PE May indicate that the market has more conservative expectations regarding the company future earnings while this might suggest

a potential value opportunity it could also indicate concerns about the company's performance moving on to Price to Book ratio The is a financial metric used to assess the valuation of a company's stock in relation to its book value per share it provides insights into whether a stock is overvalued or undervalued based on the company's accounting value or Book value is the value that the company would pay to its shareholders after selling off all its assets and paying off its liabilities considering the same example with the price of the stock at rupes 100 and Book value at rupees 50 the PB ratio will come out to be two meaning that investors are willing to pay 2 rupees for every 1 rupee of book value a higher PV ratio may suggest that investors are willing to pay a premium for the company's assets indicating optimism about its future growth and earnings potential whereas a lower PB ratio May imply that the market values the company's assets less than its accounting value potentially signaling undervaluation next up is price to cash flow ratio this metric is used to assess the valuation of a company's stock by comparing its market price per share to its operating cash flow per share operating cash flow represents the cash generated or used by a company's core operating activities excluding financing and investing activities again sticking to the same example with price at rupes 100 and operating cash flow at rupees 20 the price to cash flow ratio will come out to be five indicating that the investors are willing to pay 5 rupees for every 1 rupee of operating cash flow generated by the company a higher price to cash flow ratio May indicate that investors are willing to pay a premium for the company's cash generating ability suggesting confidence in its Financial Health whereas a lower PCF ratio may suggest that the market values the company comp's cash flow less than its market price potentially signaling a more conservative valuation next is price to sales ratio it is also known as market cap to sales ratio this helps investors assess the valuation of a company's stock relative to its total revenue it's a simple ratio that provides insights into how the market values a company sales consider the same company that we've been talking about let's say the market cap of the company stands at 1,000 CR and its total revenue or sales for the most recent year stands at rupes 500 cror therefore the market cap to sales ratio will come out to be two this indicates that investors are willing to pay 2 rupees for every 1 rupee of the company's total revenue a higher price to sales ratio May indicate that investors are willing to pay a premium for the company's sales suggesting high growth expectations or a strong Market position whereas a lower price to sales ratio may suggest a more conservative valuation indicating that the market values the company's sales more cautiously about its market capitalization lastly we have EV to Abita ratio which stands for Enterprise Value to earnings before interest taxes depreciation and amortization this ratio is used to assess the valuation of a company it measures the relationship between a company's Enterprise Value and its eitta consider a company which has an Enterprise value of rupees 100 CR and an abitar of rupees 20 CR which means that the EV to Aba ratio will come out to be five this tells you that the market value the company at five times of its eitaa a lower EV to eitaa ratio May indicate that a company is relatively cheaper in terms of its ABA this could suggest that the company is undervalued while a higher EV to EP ratio may suggest that the market is willing to pay a premium for the company's ABA indicating higher expectations for future growth or a strong Market position all these ratios can be used to

filter companies on the ticker tape screen imagine you're in a neighborhood where houses are being sold now you wouldn't price any house based solely on what you think it's worth right you would look at what your neighbors houses sold for recently to get an IDE that's the essense of competitive analysis instead of guessing assing a company's value We compare it to similar ones in the market to make our lives easier say you're looking at a tech company you wouldn't compare it to an fmcg right would you let's say we are looking at two Tech Giants company a and Company B they both make smartphones and have similar revenue and profit profiles we are essentially putting them side by side to see which one offers better value but for first how do we know which companies are comparable identifying comparables is more of an art than a science the key lies in understanding and considering the relevant parameters there are four major filters that you can use here number one industry companies in the same industry are likely to have similar business models growth rates and risks making industry classification a vital Criterion again would you compare the price of a house to car number two size a small startup might not be a good comparison to a multinational corporation right look at factors such as Revenue assets number of employees and market capitalization even in the same locality you might find a 1bhk flat and a 4bhk flat but are they comparable not so number three is geographic location companies valuations can be significantly affected by their operation regions due to differences in business practices regulation and macroeconomic factors does a house in Bombay and that in gopal cause the same surely not last but not the least Financial metrics key financial metrics such as profitability growth rates Leverage and liquidity should be comparable to make it easier for you can head to the ticket tape app search the name of your choice and jump to P section to analyze the comparable companies alternatively you can also choose to head to stock screener apply filters by sector market cap and many others well this was it on valuations in the coming module we'll take a look at all the Practical applications of whatever we have disc discussed so far so stay tuned investments in the Securities Market are subject to Market risks read all the related documents carefully before investing