INVESTOR LETTER #12
Stock Price vs Intrinsic Value: What's the Difference?
Learn the difference between stock price and intrinsic value, why a low share price doesn't always mean a stock is cheap, and how value investors identify undervalued businesses.
INVESTOR NOTE
A business owner thinks in decades. A speculator thinks in minutes.
Stock Price vs Intrinsic Value
Stock price is the amount investors currently pay to buy one share of a company. Intrinsic value is an estimate of what the entire business is truly worth based on its future earnings, cash flows, assets, and long-term growth potential.
Price Is Not the Same as Value
Many beginners believe a lower share price means a cheaper investment. In reality, price alone tells very little. A ₹50 stock can be expensive, while a ₹5,000 stock can still be attractively valued depending on its intrinsic value.
What Determines Intrinsic Value?
Intrinsic value depends on the quality of the business, its ability to generate profits and cash flows, future growth prospects, competitive advantages, and the risks associated with the business.
Cheap Stock vs Undervalued Stock
A cheap stock only means the share price looks low. An undervalued stock is one whose market price is below its estimated intrinsic value. Value investors search for undervalued businesses, not simply low-priced stocks.
Example of a Cheap Stock Mistake
A company trading at ₹20 per share may look cheap, but if it has declining profits, shrinking revenue, heavy debt, and poor future prospects, its intrinsic value may be even lower. In that case, the stock is actually expensive despite its low price.
Example of a High-Priced Stock
A company trading at ₹5,000 per share may appear expensive, but if it consistently grows earnings, generates strong cash flows, and has durable competitive advantages, its intrinsic value may be much higher than the current market price.
Why Market Price Changes Every Day
Stock prices change every day because of investor emotions, news, demand and supply, and short-term market expectations. Intrinsic value changes much more slowly because it depends on the long-term performance of the underlying business.
Why Intrinsic Value Matters
Value investors estimate a company's intrinsic value before investing. By comparing intrinsic value with the current stock price, they can identify opportunities where the market may be undervaluing a great business.
Margin of Safety
Even the best valuation is only an estimate. Buying a stock below its intrinsic value provides a margin of safety, reducing the impact of mistakes, unexpected events, or overly optimistic assumptions.
Think Like a Business Owner
Successful investors do not ask whether a stock looks cheap based on its share price. They ask whether they are buying a great business for less than its intrinsic value.
Investor Checklist
Ask yourself: What is this business worth? How did I estimate its intrinsic value? Is the current stock price below that estimate? Am I buying a great business at a reasonable price instead of simply chasing a low share price?
INVESTOR PRINCIPLE