Stock Valuation Tutorial in 3 Easy Steps – Stock

Value, Valuing Stocks, Finance Stock Valuation Alright! Welcome back again to www.MBAbullshit.com. So our topic for this video is Stock Valuation

or how to value stocks or how valuable is a stock or a share of stock. Remember, you can always go back to www.MBAbullshit.com

to check out more cool videos on these business topics. Before this video, you should already understand

Future Value, Present Value, Net Present Value, Value of a Perpetuity, and Value of an Annuity. If you don’t understand those yet, then

you may watch my other free videos on these topics above. Alright, let’s get down to it. First of all, just a quick overview, a “Stock”

or a “Share of Stock” is a piece of paper which says that you own part of a company

or corporation, whatever.

You can buy this stock or sell this Stock

to somebody else and usually you do this in a “Stock Exchange” which is a place where

people buy and sell stocks from each other. Or buy from each other, sell to each other. Alright? Now the “Stock Value” which we are going

to compute in this video is different from the stock’s “Market Value” which is

the price that people actually and really pay for. Actually, price at which people actually buy

and sell stocks in the real stock exchange. So you might wonder why on earth are we going

to compute this if it’s different from the actual “Market Value” that people buy

and sell stocks.

And the answer to that is we compute the “Stock

Value” so that we know if the Stock Market Value is cheap or expensive at a given time. So if for example today, a stock is being

sold in the market for $10, we can first compute the “Stock Value” so that we know if ten

dollars is too expensive or very cheap and a good bargain. Alright? So that’s why you want to compute the “Stock

Value.” So now, where does the Stock’s value come

from? Where does it come from? Well, first of all, it comes from the share

of profits that it pays out to you.

So if you only share a stock and the company

makes money and you own a part of that company by owning

a share of stock of that company then the company will pay you a share of its profits. And this share of profits is called the “Dividends.” Alright? Now, the second main place where the stock’s

value comes from is the price that you can sell the stock in the future. So remember, I said you can buy this stock

and you can also sell it to somebody else if you don’t want to own it anymore or if

somebody offers you a good price for it or you can sell it in the stock market or the

stock exchange if it’s being sold at a good price. Alright? So that’s where the stock’s value comes

from.

Now let’s say a stock is now selling in

the stock exchange at twenty four dollars per share and it has a dividend of two dollars

per year. You plan to sell it after three years. In three years, the price of the stock is

expected to go up to twenty five dollars. So let’s just say that the discount rate,

remember Net Present Value and Present Value we have a discount rate which is usually the

bank rate or the amount of interest you would get from the bank. But in terms of stocks, it’s not necessarily

the bank rate. Just call it a “Discount Rate” but we

use it in a similar way.

I will show you in a while. So the discount rate is eleven percent. So now, what is the value of the stock? So now we use the Net Present Value formula. The Stock Value is two dollars. Remember you’re keeping the stock for three

years and you earn two dollars every year in dividend. So the value of the stock comes from your

two dollars in the first year plus your two dollars in the second year plus your two dollars

in the third year. Plus the value of the stock also comes from

the amount of money you will get in the future when you sell it and we know it is twenty

five dollars.

You see? And then remember using Net Present Value

formula, we have to discount or we have to bring back the values of these cash flows,

okay? Until today so this two dollars you earn one

year later, you have to bring it back one year. One. And you bring it back one year using the discount

rate. So in the basic Net Present Value formula,

we bring it back using the bank interest rate. But with stocks we bring it back using what

we call an “Expected Rate” or a “Required Return.” We call it a “Required Return.” If you want to know more about that, you can

watch my other video on CAPM or the “Capital Asset Pricing Model” in another video. But for now, if you do not know the Capital

Asset Pricing Model, no problem, just believe me when I tell you that we will use a “Discount

Rate” of eleven percent instead of the bank rate. The bank rate might be lower, maybe five percent

or whatever. Some professors will call it “Discount Rate.” Some professors will call it “Expected Rate.” Some professors will call it a “Required

Return.” Alright? So it doesn’t matter.

The point is that they will give you a certain

percentage which you will use in the Net Present Value formula so that you can bring back these

values. One. Two. This is negative three years. One, Two, Three. Okay? So that you can use it in the same Net Present

Value formula to find out the value of this stock today. Alright? So this is two dollars every year in dividends

and this is twenty five dollars at which you will sell the stock in the future.

This is the Discount Rate so that you can

bring back the value using the Net Present Value formula. This is negative one because it happens one

year from now so we have to bring it one year. One. This is negative two because it happens two

years from now so to get the value today, you bring it back two years. One. Two. This is negative three for the same reason. One. Two. Three. And then also in the third year, you sell

it for twenty five dollars, you have to bring it back three years as well. One. Two. Three. Alright? So just take note, that in this case these

are both negative threes, right? It is not negative three and then negative

four because you get the dividend of two dollars per year for three years and you also plan

to sell it after three years. So you sell this at more or less the same

time that you get your last dividend. Okay. So now, using the Net Present Value formula,

you get the Stock Value of twenty three dollars and seventeen cents.

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