As we approach Section 4 of the SSG, please keep in mind how much judgment has been used in the study so far. All of these judgments are subjective and are based on how the Co. has preformed in the past as well as my feelings for the future. Please use judgments that you feel are appropriate, and discuss your judgments with other members of your club or with the StockCentral community on the Co. forums. I also have used other services to assist with future judgments, most notably the VL report, Take Stock and Ratio Analyzer.
The Co. we have been studying is a well run, quality Co. I have applied conservative forecasts to future sales and earnings growth as well as future PE values. I have used these conservative forecasts because of the slowing US economy. I also want to avoid the number 1 mistake I have made as an investor in common stocks; I do not want to pay too much for the shares. I want to avoid “chasing growth” as Jeremy Siegel has written.
Looking at part 4 of the SSG, we see that by using an average high PE of 26 and a future EPS of $4.22, our high price for the stock is $109.72. This compares well with the high price and future EPS from VL. (See slide 1) Take Stock, which is based on past performance with removal of outliers, has higher growth rates and higher PE values. The result is higher estimated prices. (See slide 2) Because judgments from Take Stock are much higher than my judgments or those of VL, I will shy away from Take Stock. (If I can buy shares of the Co. based on my conservative judgments, and the Co. performs like the Take Stock judgments, I will be in for a great profit. I use Take Stock with most judgments I make through out the SSG and find it very valuable.)
When evaluating growth Co.s, I use line 4B(a) for my estimated low price, unless that number is greater than the 52 week low price. With the Stock Analyst program, I am able to select from a list of potential Estimated Low Prices if I choose by right clicking on the low Price box. (See slide 3) The other option is to manually enter a low price that is 10% to 15% below the stock’s 52 week low price if your estimated low price is above the 52 week low.
Finally, look at section C-zoning. We see that at the current price of FDS, (at the time the data was entered into the program), the stock was a buy with an Upside:Downside ratio of 3.3:1. (See slide 4) Using the same data in the BetterInvesting Online SSG, the stock is a buy at $53.06.(See slide 5)
Based on earnings, the stock has a potential total appreciation of 107.5% if sold at it’s high PE in 5 years. That equates to 15.7% average annual appreciation with .9% dividend yield for a total average compounded annual return of 16.6%. (See slide 6) If the stock is sold in 5 years at it’s average PE (21) it would be worth $88.62. At that price, the total appreciation would be 68%. That equates to 10.88% annual appreciation and .9% dividend yield for a total annual return of 11.78%. This is very close to the VL price for average PE ($87) (See slide 7)
Another figure I like to look at is the VL Cash Flow price. From the cash flow chart (See slide 8), we see a steady incline in the cash flow per share. Also in the legends box, we see that the price to cash flow ratio (much like the price to earnings ratio) is 17; meaning that the price of the stock averages 17 times the cash flow per share. Thus, the 5 year price, based on cash flow is $94.35. If the price of the stock is able to attain it’s average cash flow price of $94.35, it would have grown, with the dividend, by 13.2% a year.
Looking at the cash flow chart, the so called value line is the solid cash flow line gradually inclining in the graph. Also observe the stock price in relation to the cash flow line. Whenever the stock price falls below the cash flow line, the stock is undervalued (can be bought at a discount); whenever the stock price rises above the line, it is overvalued (can be bought at a premium). At the current price of $52.88, the shares are slightly undervalued.
From these studies, we see that there are differing potential growths for the stock price, depending on PE growth (investor sentiment) of the stock in the future. (See slide 9) We can not predict the PE value of the stock in the future, much like we can not predict sales and earnings growth. However, we can look at different scenarios to see what our potential gains could be.
If we use the numbers from our SSG, we see a potential growth in the price of the shares to $109.72. If we feel good about the data and judgments we used on the SSG, we can buy the shares up to the price of $54.31 with a reasonable chance of doing well. However, for the shares to be selling at that price, they will have to be at their high PE levels. (That may be totally possible) If we are less optimistic and feel that the earnings will grow as we predicted, but feel the PE will remain near the average, the 5 year price will be $88.62 and a safe price to buy the shares is around $44.31. Lastly, if we feel that the Co. cash flow growth has been more predictable than earnings growth, we may want to buy shares based on that. If cash flow grows steadily as it has in the past, the price in 5 years, based on cash flow, will be $94.35, and a safe buy price would be $47.18.
The point of this exercise is to avoid buying a stock just because the SSG has the current price of the stock in the buy range. Look at the purchase price and calculate how much the earnings will need to grow, or what the PE level will need to be, for your invested money to double in 5 years |