What are hidden values?
Hidden values are assets that are undervalued on a company’s balance sheet and therefore may not be incorporated or reflected in the company’s stock price.
So-called value investors seek to uncover hidden values in a company’s balance sheet that are often overlooked by the average investor, often through the use of fundamental analysis. An asset marked at book value but actually worth more in terms of sound fair market price would be considered a hidden value.
Key points to remember
- Hidden values are balance sheet items whose true market value may not be reflected in a company’s current stock price.
- Assets such as land or equipment depreciated at book value are examples of potential hidden values.
- Value investors are keen to identify companies with a cache of hidden values, hoping that its full value will be realized in due course, as evidenced by its share price.
Understand the hidden value
The essence of invest in value buy undervalued stocks—i.e. undervalued in relation to their intrinsic values. A value investor will determine a fair value in a number of ways, depending on the type of business, and then compare that intrinsic value to the value placed on the security by the market. If the discount is attractive enough for this value investor, they will buy the stock and patiently wait for the potential convergence of current market value to intrinsic value.
Asset to which a company assigns a certain value on the balance sheet to comply with generally accepted accounting principles (GAAP) may be worth more in terms of fair market value. Intangible assets such as trademarks and patents could contain hidden values, as could the reserves of natural resource companies. In some cases, if an asset has been held for a long time at cost on the books, it may be worth significantly more than is reflected on the balance sheet. Similarly, if an asset has been deprecated for accounting purposes, in particular when using a accelerated depreciation timeline, it may actually hold more market value than what is attributed to it in the company’s account balance sheet.
Example of hidden value
A classic example of hidden value is land. The land must be owned historical cost according to GAAP accounting rules, but it is very likely that this type of asset has appreciated considerably if it is held for a long period of time. If the land is isolated from the balance sheet and valued at current market prices, it would likely be worth more than that recorded in the financial statements and possibly represent a sizeable portion of the company’s revenue. market capitalization.
A retailer like Tiffany or Macy’s, with a prime property in Manhattan, for example, might have this kind of hidden value. The value investor would separately calculate the current market value of their properties to determine whether or to what extent a discount to intrinsic value exists.