Intrinsic Value — DCF, Graham, and Asset Methods

Learning Objectives

After reading this chapter, you will be able to:

• Explain how market price changes daily while intrinsic value changes slowly — investors who understand this gap are not slaves to market emotion; this is the heart of value investing
• Apply Intrinsic Value metrics and formulas using consolidated NSE/BSE annual report data
• Identify red flags when interpreting Intrinsic Value: valuation based on narrative alone
• Connect Intrinsic Value analysis to peer comparison and buy/hold/avoid decisions

Introduction

Value investing in one sentence:

"Buy something worth ₹1 for 50 paise."

But first you must know: "What is its true price (intrinsic value)?" The biggest mistake in the stock market: people look at price, not value.

Core Concepts

Financial Terms

Investment Decision

I consider investing only when:

✅ Business quality is strong ✅ Cash flow is robust ✅ Debt is controlled ✅ ROCE is healthy ✅ Margin of Safety is available

Golden Rule: Do not buy shares — buy businesses. And before buying a business, ask: "What is its true value?"

"Price is what you pay. Value is what you get." — Benjamin Graham

In simple terms:

The true economic value of a business — if you were buying the entire business, what would be a fair price?

Market Price = price shown on the exchange today Intrinsic Value = what the business is truly worth These are often different.

Mr. Market is sometimes very happy, sometimes very fearful. Market price keeps changing; business value changes slowly.

COVID Crash: Many great companies fell 30%–50%. Did the business become 50% worse? No — market price changed, intrinsic value did not.

Return does not come from a good business alone — return comes from buying a good business at the right price.

Method 1: Asset Based Valuation

Example: Assets ₹1000 Cr, Liabilities ₹400 Cr → Value ₹600 Cr

Method 2: Earnings Based Valuation

Example: Profit ₹100 Cr, Industry P/E = 15 → IV = ₹1500 Cr

Method 3: Discounted Cash Flow (DCF)

Where CF = Future Cash Flow, r = Discount Rate, n = Years

The value of a business is the present value of its future cash flows.

Today's ₹100 is worth more than future ₹100 — because of inflation, opportunity cost, and risk.

What does Buffett actually do? Value future cash flows — DCF thinking, even if he does not build a detailed model every time.

Method 4: Relative Valuation

Example: TCS industry P/E = 25, similar company P/E = 15 → the analyst will seek reasons.

Method 5: Graham Valuation

Novice investors: IV = ₹123.45 Professional investors: Intrinsic Value Range — e.g. ₹900 – ₹1100

BEL Example:

Growth, margins, and the economy can change — thinking in ranges is the correct approach.

1. Earnings
2. Cash Flow
3. Growth
4. Capital Efficiency (ROE/ROCE)
5. Risk

Formula & Explanation

No standalone formula in this chapter — focus on conceptual framework and definitions above.

Visual Guide

Worked Example — Indian Market

IV Range Approach

DCF ₹850, Graham ₹780, current price ₹1,100 → stock prices growth perfection. Use range not single point estimate.

Real World Example

A shop is for sale. The broker says: ₹50 lakh. You are the analyst — you analyse profit, cash flow, assets, growth and conclude: ₹80 lakh.

This could be an opportunity.

Case Study

TCS

I would review revenue growth, margin stability, and cash flow.

PFC

I would review book value, dividend, and asset quality.

Maithan Alloys

I would review commodity cycle, cash position, and earnings normalisation.

Disclaimer: Intrinsic value estimates are subjective; triangulation across multiple methods is recommended.

CFA Exam Tip

When I value a company, I ask:

1. How much does the business earn?
2. How much cash does it generate?
3. How fast can it grow?
4. How much risk is there?
5. How fair is today's price?

The answers together form intrinsic value.

Common Mistakes

• Valuation based on narrative alone
• Unrealistic growth assumptions
• Weak cash flow
• Excessive debt
• Price far above intrinsic value

Key Takeaways

Market price changes daily; intrinsic value changes slowly. Investors who understand this gap are not slaves to market emotion — this is the heart of value investing.

Practice Questions

Chapter: Intrinsic Value | Part 04 | Try before reading answers.

Q1 (Conceptual): What is the core message of this chapter in one sentence?

Q2 (Calculate): Calculate: 200 - Graham Number = Rs. 474?

Q3 (Application): How do Intrinsic Value and Market Price interact in Intrinsic Value decisions?

Q4 (Red Flag): Red flag: valuation based on narrative alone — why avoid relying on Intrinsic Value alone?

Q5 (CFA Style): CFA-style trap when interpreting Intrinsic Value?

Q6 (Decision): Invest / wait / avoid — 3 bullets using Intrinsic Value framework on one stock.

Q7 (Lab): Complete one Intrinsic Value exercise in Part 04 Practice Lab.

Answer Key

Go deeper: Part 04 Practice Lab

FAQ {#faq}

Q: What should I check alongside Intrinsic Value screening?

A: Cash flow trend, debt, and business quality — IV alone does not confirm a buy.

Q: How do I connect theory to Indian market practice?

A: Use Screener/Trendlyne + company annual reports — plot the same metrics over 3 years; paper formulas alone are insufficient.

Q: Why avoid narrative-only valuation?

A: Stories without cash flow and balance-sheet support often overstate value.

Q: Why is weak cash flow a red flag for intrinsic value work?

A: Accounting profit without cash generation undermines DCF and earnings-based IV.

Q: How do I drill these concepts in the Practice Lab?

A: Open Part 04 Practice Lab → use the FAQ Drill row for intrinsic-value to practice on real stocks, then verify answers against the Chapter FAQ Quick Index.

Practice Lab FAQ: Full part FAQ index — Part 04 Practice Lab

Related Topics

• Previous Chapter: 30-Graham Number Formula
• Next Chapter: 32-Value Trap Recognition
• Part Overview: Part 04 Value Investing
• Book Index: Full Table of Contents

Disclaimer: Educational content only. Not investment advice. Consult a qualified financial advisor before investing.