Recently, multiple analysts have rated Yahoo (YHOO) as an intriguing company, primarily due to its stake in Alibaba (BABA). Andrew Labutka of Speculation Sunday found the company’s core business to be currently valued by the market at less than zero, while fellow Seeking Alpha contributor Brian Wu dove into the possibility that Yahoo’s recent deal with Microsoft (MSFT) will lead to increased margins. These are strong qualitative conclusions, and should be coupled with strong quantitative analysis in order to compare the opportunity to other possibilities.
Benjamin Graham, the father of value investing, taught that the most important aspect to consider is whether the company is trading at a discount relative to its intrinsic value. It is through a thorough fundamental analysis that the investor is able to make a determination about a potential investment’s merits. Here is an updated look at how Yahoo fares in the ModernGraham valuation model.
The model is inspired by the teachings of Benjamin Graham, and considers numerous metrics intended to help the investor reduce risk levels. The first part of the analysis is to determine whether the company is suitable for the very conservative Defensive Investor or the less conservative Enterprising Investor, who is willing to spend a greater amount of time conducting further research.
In addition, Graham strongly suggested that investors avoid speculation, in order to remove the subjective elements of emotion. This is best achieved by utilizing a systematic approach to analysis that will provide investors with a sense of how a specific company compares to another. By using the ModernGraham method, one can review a company’s historical accomplishments and determine an intrinsic value that can be compared across industries.
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Defensive Investor – Must pass at least 6 of the following 7 tests: Score = 6/7
- Adequate Size of Enterprise – Market capitalization of at least $2 billion – PASS
- Sufficiently Strong Financial Condition – Current ratio greater than 2 – PASS
- Earnings Stability – Positive earnings per share for at least 10 straight years – PASS
- Dividend Record – Has paid a dividend for at least 10 straight years – FAIL
- Earnings Growth – Earnings per share has increased by at least 1/3rd over the last 10 years, using 3-year averages at the beginning and end of the period – PASS
- Moderate PEmg (price over normalized earnings) ratio – PEmg is less than 20 – PASS
- Moderate Price to Assets – PB ratio is less than 2.5 or PB x PEmg is less than 50 – PASS
Enterprising Investor – Must pass at least 4 of the following 5 tests or be suitable for a Defensive Investor: Score = 4/5
- Sufficiently Strong Financial Condition, Part 1 – Current ratio greater than 1.5 – PASS
- Sufficiently Strong Financial Condition, Part 2 – Debt-to-Net Current Assets ratio less than 1.1 – PASS
- Earnings Stability – Positive earnings per share for at least 5 years – PASS
- Dividend Record – Currently pays a dividend – FAIL
- Earnings growth – EPSmg greater than 5 years ago – PASS
|Value Based on 3% Growth||$42.06|
|Value Based on 0% Growth||$24.66|
|Market Implied Growth Rate||3.47%|
Balance Sheet – March 2015
Earnings Per Share
Earnings Per Share – ModernGraham
Yahoo! does not pay a dividend.
Yahoo! passes the initial requirements of the Enterprising Investor, but not the more conservative Defensive Investor. The Defensive Investor is concerned by the company’s lack of dividend payments, a concern shared by the Enterprising Investor. As a result, all value investors should feel very comfortable proceeding to the next part of the analysis, which is a determination of the company’s intrinsic value.
When it comes to that valuation, it is critical to consider the company’s earnings history. In this case, it has grown its EPSmg (normalized earnings) from $0.67 in 2011 to an estimated $2.90 for 2015. This is a very strong level of demonstrated growth, which is well above the market’s implied estimate for annual earnings growth of 3.47% over the next 7-10 years.
In recent years, the company’s actual growth in EPSmg has been astronomical, averaging nearly 67% annually, and while the ModernGraham valuation model reduces the actual growth to a more conservative figure when making an estimate, the model still returns an estimate of intrinsic value well above the current price, indicating that the company is undervalued at the present time.
Disclaimer: The author did not hold a position in any of the companies listed in this article at the time of publication and had no intention of changing that position within the next 72 hours. Logos taken from either the company website or Wikipedia; this article is not affiliated with the companies in any manner.