What is the Share Price of a Company?

A publicly traded company has many owners. With popular businesses, those owners change every day—sometime even every minute. This is a fundamental truth of the stock market and is what makes it work. Buyers and sellers meet to trade small pieces of ownership of thousands of companies all day, all around the clock.

The father of value investing, Benjamin Graham, is quoted as saying that this is a voting machine in the short term but a mechanism for valuing companies fairly in the long term.

What is a Public Company Worth?

For each of those individual transactions, what is the company really worth? Much of its value depends on its assets: inventory, factories, accounts receivable. Other value depends on how much revenue and profit and free cash it can produce over its lifetime.

If someone offered you $100 to estimate the fair share price for any public company on the spot, you'd have trouble collecting; figuring out that price is complicated.

... until you consider that the stock market (where countless people are buying and selling countless pieces of countless companies every day) are slowly converging on a single price for a piece of ownership of a company.

Suppose you own a candy company in Canada. You spent $5,000 on a factory and have $5,000 of inventory sitting in your warehouse. If you could sell the factory right now for what you paid for it and the candy you have right now for what it's worth, the company is worth $10,000. Easy math.

If you had 10,000 shares of the company—10,000 pieces of ownership—you might consider the fair share price to be a dollar. In other words, you could spend $1 to buy a single piece of ownership of the company.

What is the Share Price of a Stock?

Yet $1 isn't the full answer, because your candy company is a working business, with lots of moving pieces.

Your factory's probably worth more than that $10,000, but you have to pay taxes on it. You owe the suppliers of your ingredients money, but you've already sold some of your inventory for more than you thought you would. If you built a second factory, you could triple your sales next year and the year after that and earn still more money, but you might have to take out a small loan or raise more capital to do that.

What's the right share price? It depends.

You can do a lot of calculations based on the balance sheet and projections. You can listen to the advice of financial analysts who do that all day every day (if they even look at Canadian candy companies). You could also look at the current price on the public stock exchange where that company is traded to get a sense of what active buyers are willing to pay and what active sellers want to get. Sometimes that's way off what the company is really worth, but it's a start.

Yet sometimes that's wrong.

What's the Right Price for a Stock?

You can't predict the future, but you can know the maximum price you want to pay for a stock, based on the value the company holds and can produce. That's the heart of value investing.

Knowing how to find the share price of a company means understanding what the business is worth and what you want to pay for it. The latter is up to you; it depends on the return you want to get. If you've been through basic algebra, all that's left is plugging a couple of values into discounted cash flow analysis and... magic. At least, this is the secret to find great stocks at bargain prices.

If the company can earn more money next year than this year and repeatedly do that—if it's reliably profitable—you can calculate the intrinsic value of the company itself. This is the important baseline value. It's your rule of thumb. Do not violate this value.

This is also where investing introduces risk, but at least it's a calculated risk, if you're basing these calculations on plausible financial information. By all means, account for less tangible questions like the global customer base of people with a sweet tooth or what you could sell a factory for if you had to liquidate it next week—but let the strength of the business as a business be your starting point.

You can't get the right price of a stock by looking at a single day in the market. Only in time will good companies demonstrate that they know how to succeed in business. Yet if you do your homework and find discounts—they exist and are available for careful investors—you can be rewarded.

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