Earlier this month I read a book called Getting Started In Value Investing by Charles S. Mizrahi. It had great recommendations so I decided to take a chance on it. I was still looking for a way to actually figure out how to price stocks. It is clear from the book that he is a fan of Buffet.  Oh, and he also likes to read annual reports on vacation by the pool. I like this guy!

I am going to go through the method in this book and walk through it step by step. I have already done this on a few companies including SBUX, AFL, and AAPL. I will share my steps, findings, and thoughts on AAPL.

(Note: He recommends using 10yr EPS, but I used the 5yr EPS found at finviz.com.)

Step 1: If 5 yr EPS is over 15% then use 15% growth rate. If 5 yr EPS is below 15% then use 10% growth rate. AAPL is at 33.7% so I used 15%

Step 2: If P/E is above 20 then use P/E of 17. If P/E is below 20 then use P/E of 12. AAPL is at a P/E of 11.67 so I used a P/E of 12.

My Thoughts: Using this EPS and P/E will be used to forecast the stock price 5 years down the road. Every time I see words like forecast, prediction, or analyst estimate I think of “margin of safety.” However, predictions have to be made to figure out what you are getting. I am guilty of blindly throwing darts and hoping for good results. I am still working on improving in that area. I do like that it is a more conservative estimate.

Step 3: Use EPS (TTM) and the 15% growth rate from step 1. EPS (TTM) was at $9.20

$9.20 x 1.15 (15% growth rate) = $10.58 year 1

$10.58 x 1.15 = $12.17 year 2 EPS

$12.17 x 1.15 = $13.99 year 3 EPS

$13.99 x 1.15 = $16.09 year 4 EPS

$16.09 x 1.15 = $18.50 year 5 EPS

Step 4: Now we can get the estimated 5 year stock price. $18.50 (EPS) x 12 (P/E) = $220.05 (I know it doesn’t equal this. I tried to reduce rounding error by keeping it in calculator. I like to keep track of my $0.05!)

Step 5: Wait! AAPL pays a divi so that needs to get factored in somehow. This is done by adding up the yearly EPS and then multiplying by the payout ratio. ($10.58 + $12.17 + $13.99 + $16.09 + $18.50 = $71.33)

Step 6: Payout ratio = dividend/EPS = $2.08/9.20 = 22.61%

Step 7: Divis from AAPL over 5 years = $71.33 x 22.6% = $16.13

Step 8: Predicted 5  year stock price = $222.05 + $16.13 = $238.18

How do I figure out what I want to pay now? I will backtrack using a 15% rate of return.

Year 5             $238.18 / 1.15 = $207.11

Year 4             $207.11 / 1.15 = $180.10

Year 3             $180.10 / 1.15 = $156.61

Year 2             $156.61 / 1.15 = $136.18

Year 1             $136.18 / 1.15 = $118.42

The $118.42 would be the price I would want to pay (or less!) to get the results (hopefully!) that I want. It was interesting to see this method at work. I knew that P/E under 20 is “good” typically. I know it varies from industry as well. I have been noticing a lot of bearish sentiment towards AAPL. It blows my mind how most forecasts seem to be focused on just quarterly and annual results. I think I can benefit from this short term focus and get a chance to pick up a quality company, like AAPL, at a great price.

I did this same process for SBUX. Let’s just say that I doubt I will be adding to my SBUX shares for a while. AFL looked pretty good though!

I have to get better at separating my emotional biases towards a company that has done well for me in the past. That is only allowed in Fantasy Football, not investing! I really like those 3 words that Benjamin Graham and Warren Buffet used: Margin of Safety. Numbers can be a nice reality check on what you think!

This is my favorite method for calculating a buy point for a stock that I have seen so far. Have you ever used this method, or do you prefer a different method?

 

Happy New Years Eve!

JT

 

 

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