Quick context:
- When I first started investing back in 2016, I used to maintain my own valuation models.
- Competing priorities with work & personal life eventually made me decide to simplify my models & rely on Wall Street analyst reports for more robust details
- Wall Street analysts lost some credibility with me recently after seeing the wide revisions in their price targets
My Quick & Dirty Sanity Check:
- The most common valuation metrics are P/E & EV/EBITDA that Wall Street uses to forecast price targets
- But, my simplified spreadsheets for historical data doesn't track a couple of the inputs like share count, net debt, etc.
- But, at a minimum I was generally tracking revenue, EBITDA, & net income. I was also able to download historical stock price trading data from Yahoo Finance
- So for my quick & dirty sanity check, I created my own crude historical ratios for Price to Revenue, Price to EBITDA, and Price to Net Income to see what the rough historical trading range was. Given the volatility in valuations for actuals data due to COVID, I sometimes took a straight-line average from FY '19 – FY '21 or longer depending on the stock.
- I then applied my quick & dirty sanity check on the forecasts I'm getting from Wall Street or from myself so I could get an apples-to-apples comparison. I then evaluated : “ok the historical trading range for the quick & dirty ratio is x & the forecast is y . Does the forecast make sense?”
- If the apples-to-apples comparison to the quick & dirty sanity check made sense, I stayed with the same P/E & EV/EBITDA forecasts used for the price target. If it didn't make sense to me, I adjusted the P/E & EV/EBITDA forecasts used for the price target & then keep changing until I see the quick & dirty calculation is aligned with historical data
What I learned:
- Generally analysts are using multiples that are either too low/too high relative to historical trading data. I own a couple of stocks so it's always a different story. But overall the exercise helped me evaluate if valuations made sense relative to historicals & if they were different helped pushed me to ask questions why it would make sense going forward.
Leave a Reply