What is fair value?
A stock’s fair value, or intrinsic value, is an estimate of what one share is worth based on the cash the business is expected to generate, rather than on what the market is paying for it today. StockHub estimates it with a discounted-cash-flow (DCF) model and shows the answer as a bear-to-bull range, because small changes in the assumptions move the result a lot.
How is the fair value calculated?
The model works in six steps, using each company’s latest reported figures from Yahoo Finance.
- Start from cash flow. The base is the company’s trailing free cash flow, or 60% of its operating cash flow if that is higher. A company in the middle of building factories or data centers can report unusually low free cash flow for a few years; the floor approximates what it will convert once that spending settles down.
- Pick a growth rate. Three candidates vote: the earnings growth implied by the trailing and forward P/E ratios, and the latest quarter’s year-over-year growth in earnings and in revenue. A candidate outside −60% to 150% is thrown out as a data artifact. With three left, the model takes the middle one. With one or two, it uses revenue growth if that survived, because revenue is the most reliably scaled of the three; otherwise it takes the lowest remaining candidate. With none, it assumes 8%. The result is then kept between −5% and 18% a year.
- Set the discount rate. Riskier stocks have to earn more, so the rate follows the capital asset pricing model: 4% plus the stock’s beta times 5%, kept between 7.5% and 11%. A stock with no usable beta is treated as average, with a beta of 1.
- Project 10 years of cash flow. Cash flow grows at the chosen rate for 5 years, then the growth rate fades in a straight line to 2.5% over the following 5.
- Add a terminal value. Everything after year 10 is valued with the Gordon growth formula, assuming cash flow grows 2.5% a year from then on.
- Discount and divide. Each year’s cash flow and the terminal value are discounted back to today, the company’s cash is added and its debt subtracted, and the total is divided by the number of shares outstanding.
Why is it a range and not one number?
At typical inputs the terminal value makes up around 60% of the total, and moving the discount rate by a single percentage point can move the result by 15% to 20%. One figure would claim a precision the model doesn’t have, so StockHub runs it three times.
- Growth moves down and up by 20% of the base rate, and always by at least 1.5 percentage points.
- The gap between the discount rate and terminal growth widens by 15% in the bear case and narrows by 15% in the bull case, with 75% of the change made through the discount rate and 25% through terminal growth. The two move together because both act on the terminal value through that one gap.
- Scenario rates may pass the base case’s limits, to growth between −10% and 24% and discount rates between 6% and 13%, so the range stays wide for the companies whose base case is least certain.
The bear and bull results are the two ends of the range, and the base case sits between them.
How should I read the range?
Each stock page compares the current price with the range.
- Below the range: the price is under the bear-case value, so even the cautious assumptions support a higher value than the market is paying.
- Inside the range: the price is consistent with the model’s assumptions.
- Above the range: the price is over the bull-case value, so the market is paying more than even the optimistic assumptions support.
Each estimate also carries a confidence level. It is low, and the range is dimmed, when the growth rate had to be assumed or hit its limit, because the estimate then says less about the particular company. It is medium when another input needed an adjustment, such as the cash-flow floor, a discount rate at its limit or a beta that had to be assumed, and high otherwise.
Which stocks don’t get a fair value?
A free-cash-flow model doesn’t fit businesses that make their money by holding, lending or investing other people’s money, or that must pay most of their income out by law. So StockHub doesn’t estimate a fair value for banks, insurers, real estate investment trusts (REITs), investment banks and brokerages, asset managers, mortgage lenders, financial conglomerates and shell companies. The exception is insurance brokers, which earn fees the way other service businesses do.
Funds, ETFs and cryptocurrencies have no fair value either, because they don’t produce cash flows of their own to discount. Nor does a company without positive cash flow or a known share count, which leaves the model nothing to work from.
Example: The Coca-Cola Company (KO)
These are the three scenarios behind The Coca-Cola Company’s current range, worked from its latest figures.
| Scenario | Growth, years 1–5 | Discount rate | Terminal growth | Fair value |
|---|---|---|---|---|
| Bear | 5.2% | 8.1% | 2.3% | $41.4 |
| Base | 6.7% | 7.5% | 2.5% | $53.3 |
| Bull | 8.2% | 6.9% | 2.7% | $70.0 |
Fair value is per share. Growth fades to the terminal rate over years 6–10, and the terminal value covers every year after that.
See how KO’s price compares with its range
What are the model’s limits?
- It’s only as good as its inputs. The figures come from Yahoo Finance and can be delayed or wrong, and the growth inputs are single-quarter readings rather than long-term trends.
- It sees cash flow and nothing else. A new product, a lawsuit or a change of management doesn’t register until it shows up in the reported numbers.
- It isn’t a price target, and it isn’t advice. Nothing on StockHub is a recommendation to buy or sell; see the disclaimer.