Future cash flows
Project free cash flow for a finite period, usually five to ten years, then a terminal value beyond. The projections embed assumptions about growth, margins, and reinvestment.
Definition
What is intrinsic value?
Intrinsic value is the present value of a company's future free cash flows, discounted back to today at an appropriate rate. It is the analyst's estimate of what a business is fundamentally worth, distinct from its market price on any given day.
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Short answer
Benjamin Graham introduced intrinsic value to separate fundamentals from sentiment. Warren Buffett refined it into a cash-flow exercise. The formula in plain English: add up all the cash a business will pay out to owners over its remaining life, then translate those future dollars into today's dollars. The gap between intrinsic value and market price is the margin of safety.
The three inputs every intrinsic-value model needs
All discounted-cash-flow models, no matter how elaborate, reduce to three categories of assumption. Garbage in, garbage out applies in full.
Discount rate
Usually the weighted average cost of capital. Reflects the required return given business and capital-structure risk. A higher rate produces a lower intrinsic value.
Terminal value
Captures the value of cash flows beyond the explicit forecast horizon. Often the largest single component of intrinsic value, which is why terminal assumptions matter.
A worked example
Suppose a stable consumer-staples business produces 5 billion dollars in free cash flow this year, grows at 4 percent annually, and an investor demands a 9 percent return. The simple perpetuity formula gives intrinsic value of roughly 5 divided by (0.09 minus 0.04), or 100 billion dollars. If the market cap is 70 billion, the stock trades at a 30 percent discount to intrinsic value.
Real models use multi-stage forecasts and adjustments for capital structure, but the logic is identical.
invest-like surfaces intrinsic-value reasoning under every Buffett-Fit verdict; see /methodology/ for the full approach.
Related
- Buffett-Fit methodology - intrinsic value lives inside the Buffett-Fit valuation pillar; this is the rubric.
- Seven-framework methodology hub - how intrinsic value enters the valuation pillar across all seven framework rubrics.
See intrinsic value applied
Every fair-value verdict on invest-like reports an intrinsic-value range and the assumptions behind it.
Educational only. invest-like is not a registered investment adviser; nothing here is personalised investment advice. Always do your own research and consider your individual circumstances.