How to Do Valuation Analysis of a Company

Valuation analysis helps investors assess a company’s true worth by examining its finances, market standing, and growth potential. When a stock’s market price falls below its intrinsic value, it may be undervalued, signaling a buying opportunity. Understanding valuation prevents overpaying and guides smarter investment choices.

Valuation refers to estimating how much a company is actually worth, regardless of its current market price. Investors use this analysis to decide whether a stock is fairly priced.

Valuation is done using:

• Financial statements (profit & loss, balance sheet, cash flow)
  

• Earnings potential and risk factors
  

• Industry comparisons and market multiples
  

The goal is to determine if the company’s stock is overvalued, undervalued, or fairly priced.

Different approaches are used to determine a company’s value, such as:

This method calculates a company’s value based on expected future cash flows, discounted back to present value using a required rate of return.

DCF Formula (Simplified):

Intrinsic Value = CF₁ / (1+r)¹ + CF₂ / (1+r)² + ... + CFₙ / (1+r)ⁿ

Where:

• CF = Cash Flow in year
  

• r = Discount rate
  

• n = Number of years
  

DCF is highly sensitive to assumptions like growth rate and discount rate, so it requires accuracy in forecasting.

Formula:

P/E Ratio = Market Price per Share / Earnings per Share (EPS)

Interpretation:

• High P/E = Growth expectations, but possibly overvalued
  

• Low P/E = May be undervalued or facing challenges
  

Compare the P/E with:

• Industry average
  

• Historical P/E of the company
  

• Peer companies
  

P/B ratio compares the stock price with the book value (net assets) per share.

Formula:

P/B Ratio = Market Price per Share / Book Value per Share

• P/B < 1: Company may be undervalued
  

• P/B > 1: Premium valuation, possibly justified by ROE or brand value

Useful for financial companies or capital-intensive sectors.

This measures how expensive a company is in relation to its earnings before interest, taxes, depreciation, and amortisation.

Formula:

EV/EBITDA = (Market Cap + Debt - Cash) / EBITDA

EV/EBITDA gives a clearer picture when comparing companies with different capital structures.

Suitable for companies with stable dividend payouts.

Formula:

Intrinsic Value = Dividend per Share / (Cost of Equity - Dividend Growth Rate)

Best used for established companies with a predictable dividend policy.

A good valuation analysis looks at multiple metrics to build a complete picture.

Call and Put options serve different purposes depending on market outlook and trading objectives:

This helps in building conviction before buying or avoiding a stock:

Step 1: Collect Financial Data

Use audited reports from company filings, exchange websites, or databases like Screener, Moneycontrol, or NSE India.

Step 2: Choose Relevant Metrics

Select valuation methods suitable for the industry and business model. For example:

• Use EV/EBITDA for capital-intensive industries
  

• Use P/E and PEG for fast-growing companies
  

Step 3: Do Peer Comparison

Compare the company with 3–5 competitors in terms of:

• P/E
  

• EV/EBITDA
  

• ROE
  

• Growth forecasts
  

Step 4: Forecast Future Earnings

Project future revenue and earnings using historical growth trends, management guidance, and sector outlook.

Step 5: Calculate Intrinsic Value

Use DCF, DDM, or relative valuation to arrive at a price range. Adjust for risks like:

• Market volatility
  

• Regulatory changes
  

• Competitive threats
  

Step 6: Compare With Current Market Price

• If market price < intrinsic value → Possibly undervalued
  

• If market price > intrinsic value → Possibly overvalued

Watch out for these common pitfalls when valuing companies:

You could use these tools to conduct effective valuation analysis:

• Screener.in: For free access to ratios and financials
  

• Tickertape: Peer comparisons and ratio trends
  

• Morningstar India: Detailed reports on valuation metrics
  

• Moneycontrol: Earnings and balance sheet tracking
  

• Excel or Google Sheets: For building custom models

Reliable data sources are essential to ensure your valuation is sound and current.

Valuation analysis bridges the gap between a stock’s market price and its actual worth. While no method is perfect in isolation, using a combination of DCF, ratios, and industry benchmarks can lead to better investment decisions. Whether you're a value investor, growth seeker, or just learning the ropes, mastering valuation principles puts you in control of your stock selection process.

This content is for informational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.