Warren Buffett has been famously quoted as saying that students of the market only need to study two courses - How to value a company and how to think about market prices. We've been covering both these topics in recent articles and I figured its time to put some of this to use with a case study of one of the UK market's sizzling success stories - ASOS (LON:ASC) .
ASOS has proven itself to be a highly capable online retailer of fashion and a classic growth stock. Originally starting as a website where young people could buy the clothes they saw the stars wear (As Seen On Screen) it soon branched out into creating its own brand fashions and a marketplace for third parties to sell their wares. By leveraging social networks (Facebook etc) it's enjoyed a startling growth curve of both sales and profits that has put high street retailers to shame. Having personally spotted the stock at a price of 5p back in 2005 or so I decided against a £10k investment. When the stock reached £24 last year the £5m profit I could have bagged certainly led to a few pangs of regret.
But what interests me today (as it did last year at even higher prices) are the growth expectations that are currently implicit in the share price and what on earth investors who are currently paying the £18+ per share are actually getting in return for their stake.
Valuation of ASOS
The art of stock valuation isn't easy, in fact it's a dangerous art best practiced with a long arm and an air of skepticism. Nonetheless its something that needs understood and practiced in order to make better informed decisions. The generally accepted practice in investment circles is that of the DCF analysis where projected cashflows in the future are added up and discounted back to a sensible valuation for that future value today.
While DCFs aren't hard, they normally require a spreadsheet which sends most people running for cover. A far simpler way for investors to run an approximation of a DCF valuation was conjured by Benjamin Graham. He created a 'rule of thumb' formula so simple that every investor should keep it up their sleeve (see below). Essentially he found that a DCF valuation could be approximated with only 2 inputs - the current…
