Intrinsic Value vs. Current Market Value: An Overview
There is a significant difference between intrinsic value and market value, although both are ways of valuing a business. Intrinsic value is an estimate value of a business based on its expected ability to generate future free cash flow over its lifetime. It is an internal value, whatever value the market places on it at any given time.
Market value is the current value of a business as reflected by the company’s stock price. Therefore, the market value can be significantly higher or lower than the intrinsic value. Market value is also commonly used to refer to the market capitalization of a publicly traded company and is obtained by multiplying the number of its shares outstanding by the current share price.
Key points to remember
- Intrinsic value and market value are two distinct ways of valuing a business.
- Market value is simply a measure of how much the market places on the business or how much it would cost to buy it.
- Market value is easy to determine for publicly traded companies, but can be a little more complicated for private companies.
- Intrinsic value is an estimate of a company’s true value, separate from how the market values it.
- Value investors look for companies with intrinsic value above market value. They see it as a good investment opportunity.
Intrinsic value is a basic measure used by fundamental-based investors to analyze a company. The idea is that it is better to invest in companies that have a real value higher than that attributed to them by the market. Intrinsic value is a type of fundamental analysis. Both tangible and intangible factors are considered when establishing value, including financial statements, market analysis and the company’s business plan.
There is an inherent degree of difficulty in arriving at the intrinsic value of a company. Due to all the possible variables involved, such as the value of the company’s intangible assets, estimates of a company’s true value can vary widely from analyst to analyst.
Some analysts use a discounted cash flow analysis to include future earnings in the calculation, while others look only at the current liquidation value or book value, as shown on the company’s most recent balance sheet. Further, the difficulty arises from the fact that the balance sheet itself, since it is an internally produced corporate document, may not be an entirely accurate representation of assets and liabilities.
Market value is the value of the business calculated from its current price and rarely reflects the true current value of a business. Market value is, on the contrary, almost more of a measure of public opinion towards a company. The reason for this is that market value reflects supply and demand in the investment market, how eager (or not) investors are to participate in the future of the business. Another difficult factor in determining market value is how to value illiquid assets such as real estate and business lines.
Market value is usually higher than intrinsic value if there is strong investment demand, which can lead to overvaluation. The opposite is true if investment demand is low, which can lead to the company being undervalued.