The Art of Company Valuation and Financial Statement Analysis: A Value Investor's Guide with Real-life Case Studies

Chapter 9

Value Investing

Be fearful when others are greedy and greedy when others are fearful.

Warren E. Buffett

 

This final chapter attempts to bridge the gap between the theory of valuation and the practice of investing. An investment can be profitable if there is sufficient discrepancy between the prevailing stock price and the investor’s own valuation. Company valuation is never a precise science but an art fraught with flaws and errors due to the investor’s own valuation input. An adequate margin of safety is the inalienable precondition in order to justify the investment. This safety margin forms, in a way, an insurance against one’s own inability and misjudgements as well as uncertainties regarding future developments. A precise and final company value per se cannot be determined. However, when buying at a considerable margin of safety, someone else has to be selling. Why should other investors be prepared at all to give away a stock below its intrinsic value?

It can be assumed that markets, and in particular stock markets, are efficient valuation machines in the long run. In the short term, however, phases characterized by overreaction as well as rather subdued times can be observed in regular intervals. Not only have there been continuous market bubbles and bursts since the tulip mania in 1630 in the Netherlands, but the temporary accumulation of irrationality seems to have clung to the masses ever since. The aim of value investing is to find incorrectly priced securities ...