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How to calculate the value of a stock

Here are a few different ways to work out if a stock is cheap, fairly priced or overvalued compared to its competitors.

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If you're new to share trading, it can be tricky to decide what to invest in and how to value a stock. You might decide to invest in a major supermarket brand, but how do you choose between similar companies such as Coles and Woolworths? Perhaps you've heard friends and colleagues refer to one as "expensive" and the other as a "bargain" but aren't sure how they've determined this.

In this guide, we'll teach you how to value a stock and discuss why it's important to do this before spending your hard-earned dollars.

How to value a stock: Technical versus fundamental analysis

There are 2 main methods used to value a stock: technical analysis and fundamental analysis.

Technical analysis involves statistical charts and algorithms that analyse the share price movements to work out the underlying trend or market sentiment based on the number of people buying and selling the stock. Some investors combine parts of both strategies into their valuations. However, in this guide, we'll be focusing on fundamental analysis only as this is the more practical starting point for new investors.

Fundamental analysis focuses on both the intrinsic and relative value of the shares. Intrinsic value is the "true" value of the shares based on the company's fundamentals – that is, its financial statements including its earnings and debt. Relative value is determined by comparing businesses against their peers. For example, comparing the price of Wesfarmers shares with Woolworths shares or comparing Westpac shares with CommBank shares. Let's take a look at a few ways of determining a stock's relative value.

3 ways to calculate the relative value of a stock

Many investors will use ratios to decide whether a stock represents relative value compared with its peers. There is an endless list of ratios and they're most effective when used together to compare similar companies. Here are 3 popular ratios.

Price-earnings ratio (P/E)

The price-earnings ratio (P/E) looks at a company's recent or forecasted earnings per share (EPS) against the current market price of its shares. EPS is the portion of the company's profits (or earnings) allocated back to each individual share. You'll often see the term P/E with a number that is considered a "multiple" of the company's earnings, which is a result of the ratio applied.

To figure out a company's P/E, first look for its EPS figures, which will be readily available in the latest annual or quarterly report on its website. Then simply divide the current price per share by the EPS to find the P/E. (Tip: If the company has adjusted EPS figures, use these instead as they will take into account any one-off major expenses for the reporting period that might affect the EPS figures.)

Example: Calculating the P/E

Let's say company ABC has a current share price of $100 and an EPS of $10 as stated in its latest report. By using this formula, the company's P/E would be 10.

* This is a fictional, but realistic, example.

The P/E ratio works best when comparing apples with apples. Most investors would argue that a stock with a lower P/E compared to its peers is "cheaper" and could be undervalued. For example, if you're considering 2 similar stocks in the financial industry and one has a P/E of 25 while the other has a P/E of 12, the latter would be considered as better value using this method alone. While there's no definitive P/E that's considered "good", over the last 40 years the All Ordinaries (the oldest index or tracking tool of shares in Australia) has averaged a P/E of around 15, which is sometimes seen as a broad threshold for fair value.

Some investors are cautious when a P/E ratio increases substantially as investor expectations about the company's performance may have jumped ahead of the company's actual earnings growth. Investors might get caught up in the market hype and anticipate sizeable future growth, but if targets go unmet this could lead to the share price being overvalued.

Price-earnings to growth ratio (PEG)

The price-earnings to growth (PEG) ratio considers a company's earnings growth. To figure this out, you'll need to find the company's estimated earnings per share over the next year, which will be included in its latest report. To calculate the PEG ratio, use the P/E ratio and divide by the growth in earnings per share (EPS).

Example: Calculating the PEG

Continuing on from our example of company ABC above, let's say the company has an estimated EPS of $11 over the next year as stated in its report. This is an increase of 10% on its current EPS of $10. Using the PEG formula of the P/E (10) divided by growth in EPS (10%), we have a PEG of 1.

* This is a fictional, but realistic, example.

Like the P/E ratio, the PEG ratio compares peer performance. Again, there's no set PEG ratio that is considered a definite "buy" signal, but fundamentalists may treat a stock with a PEG ratio below 1 as undervalued.

Price-book ratio (P/B)

Based on the underlying value of a company's assets, the price-book (P/B) ratio offers a snapshot of a company's value according to the book value of the assets on its balance sheet. P/B is calculated by dividing the current share price by the stock's book value divided by the number of shares issued. The book value is worked out from the balance sheet as total assets minus total liabilities (or costs). The balance sheet with these figures is easy to locate in the company's latest earnings report on its website.

Example: Calculating the P/B

Consider company XYZ. Its market price is currently $2, with 50 million shares on issue. Total assets are $80 million and total liabilities are $20 million (this equals a book value of $60 million). The P/B ratio is: $2/(($80 million – $20 million)/50 million) = 1.7.

* This is a fictional, but realistic, example.

The closer the P/B ratio is to 1 (or below), the greater the perceived value of the stock. P/B is mostly used for mature companies with limited growth.

Some more tips to help you value a company's shares

As well as the above ratios that give you an idea of a stock's relative value in line with similar companies, here are a couple more tips to help you work out if a stock is fairly priced or not.

  • Broker recommendations. Major brokers such as Morgans, Bell Potter and Patersons or banks such as Goldman Sachs and JP Morgan release their own reports analysing certain companies. Their analyses include either a buy (or strong buy), sell (or strong sell) or hold recommendation based on where they think the share price is heading.
  • Broker price targets. Within these broker reports, they'll also include a price target for the company's shares. This is the price they believe the shares will reach within the next 12 months based on their own analysis of the company and the market as a whole.

While relying on these broker reports to determine intrinsic value or investment opportunities could be unwise, these reports may offer a broader picture of a stock's fundamentals.

It's important to note that using one of the methods outlined in this guide on its own to determine intrinsic or fair value isn't a sure-fire way of analysing an investment opportunity. The subjective nature of determining relative value will always lead to a variety of different opinions. Instead, you would benefit from a combination of these methods as well as doing your own research into the company before making an investment decision.

Why should I value shares before buying?

No-one wants to pay more than they need to for something and we all love a bargain. The basic goal of investing in shares is to buy when the price is low and sell when it's high to make a profit.

Valuing a company's shares against similar companies in the market is one of the easiest ways to do this. It can help you work out if you're potentially paying too much for a stock, if you've found a bargain buy or if you're holding onto a potentially overvalued stock in your portfolio that you'd be better off selling and replacing with one of its competitors.

Ready to invest? Compare online share trading platforms

Now that you're equipped with the knowledge you need to compare share prices and stocks, you can find a share trading platform that best suits your needs by comparing brokerage fees, available markets and more.

1 - 10 of 10
Name Product Standard brokerage fee Inactivity fee Markets International
eToro (global stocks)
US$0
US$10 per month if there’s been no login for 12 months
Global shares, US shares, ETFs
Yes
Zero brokerage share trading on US, Hong Kong and European stocks with trades as low as $50.
Note: This broker offers CFDs which are volatile investment products and most clients lose money trading CFDs with this provider.
Join the world’s biggest social trading network when you trade stocks, commodities and currencies from the one account.
ThinkMarkets Share Trading
$8
No
ASX shares
No
Exclusive: Sign up through Finder and get 3 months of free trading up to 50 trades. Offer available to new customers only.
Following your first three months, enjoy $8 flat fee CHESS sponsored brokerage as well as free live stock data all from the convenience of an easy-to-use mobile app
IG Share Trading
$5 – 8
No
ASX shares, US shares, UK shares, ETFs, and more
Yes
Exclusive: Finder customers who apply for a share trading account in June will be able to trade Aussie shares from $2.50 commission until the end of August. T&Cs apply.
Enjoy some of the lowest brokerage fees on the market when trading Australian shares, international shares, plus get access to 24-hour customer support.
Tiger Brokers
$6.49
No
ASX shares, Global shares, Options trading, US shares, ETFs
Yes
Exclusive to Finder: Sign up to Tiger through Finder and on completion of your first deposit of any amount or transfer of shares receive 4 extra free grab shares. T&Cs apply.
Get started with $0 brokerage on ASX and US stocks for the first 3 months upon completion of your first qualifying deposit. Also receive a free Apple share if you deposit $3,000 or more.
SelfWealth (Basic account)
$9.5
No
ASX shares, US shares
Yes
Trade ASX and US shares for a flat fee of $9.50, regardless of the trade size.
New customers receive free access to Community Insights with SelfWealth Premium for the first 90 days. Follow other investors and benchmark your portfolio performance.
CMC Markets Invest
$0
No
ASX shares, Global shares, mFunds, ETFs
Yes
$0 brokerage on global shares including US, UK and Japan markets.
Trade up to 35,000 products, including shares, ETFs and managed funds, plus access up to 15 major global and Australian stock exchanges. Plus, buy Aussie shares for $0 brokerage up to $1,000. (Limited to one buy order per stock per trading day).
GO Markets Share Trading
$7.70
No
ASX shares, Forex, CFDs, ETFs
No
Zero Brokerage on your next 50 trades!
Simply transfer an existing HIN before 30 June and pay no fees on your next 50 transactions. Alternatively, transfer your existing shares and receive 5 transactions at zero cost for each shareholding transferred, once again up to 50 free trades. T & Cs apply
Saxo Capital Markets (Classic account)
$5
No
ASX shares, Global shares, ETFs
Yes
Access 22,000+ stocks on 50+ exchanges worldwide
Low fees for Australian and global share trading, no inactivity fees, low currency conversion fee and optimised for mobile.
Bell Direct Share Trading
$15
No
ASX shares, mFunds, ETFs
No
Get $300 free brokerage until 30 June when you move to Bell Direct. T&Cs apply.
Bell Direct offers a one-second placement guarantee on market-to-limit ASX orders or your trade is free, plus enjoy extensive free research reports from top financial experts.
Superhero share trading
$5
No
ASX shares, US shares, ETFs
Yes
Sign up & fund your account with A$100 or more and receive US$10 of Tesla stocks on Superhero. T&Cs apply.
Enjoy $0 brokerage on US stocks and buying ETFs as well as a flat $5 fee to trade Australian shares.
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Important: Share trading can be financially risky and the value of your investment can go down as well as up. Standard brokerage is the cost to purchase $1,000 or less of equities without any qualifications or special eligibility. Where both CHESS sponsored and custodian shares are offered, we display the cheapest option.

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