Graham Number Calculator
The Graham Number is a financial metric and valuation formula that was developed by Benjamin Graham, often referred to as the “father of value investing” and a mentor to Warren Buffett. The Graham Number is used to estimate the intrinsic value of a stock, primarily focusing on whether a stock is undervalued or overvalued based on certain fundamental financial data.
The formula for calculating the Graham Number is as follows:
Graham Number = √(22.5 * Earnings per Share * Book Value per Share)
Here’s how to interpret the components of the Graham Number:
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Earnings per Share (EPS): This is the company’s net income (profit) divided by the number of outstanding shares. It reflects the earnings attributable to each share of stock.
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Book Value per Share: The book value per share is calculated by dividing the company’s total shareholders’ equity by the number of outstanding shares. It represents the net asset value of the company on a per-share basis.
The Graham Number formula uses a multiplier of 22.5, which was suggested by Benjamin Graham, as a reference to a price-to-earnings (P/E) ratio of 15 and a price-to-book (P/B) ratio of 1.5. These values are considered to be reasonable benchmarks for a stock’s valuation in the eyes of value investors.
Here’s how to use the Graham Number:
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Calculate the earnings per share (EPS) and the book value per share for the company you want to evaluate.
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Plug these values into the Graham Number formula.
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The resulting Graham Number is an estimate of the intrinsic value of the stock. If the current market price of the stock is significantly lower than the Graham Number, it may be considered undervalued and a potential investment opportunity.
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If the market price is close to or higher than the Graham Number, the stock may be considered fairly valued or overvalued.
It’s important to note that the Graham Number is a simplified valuation metric and does not take into account various factors such as growth prospects, competitive position, and macroeconomic conditions. Additionally, the use of a fixed multiplier may not be suitable for all industries or companies. Investors typically use the Graham Number as one of several tools for evaluating investment opportunities and conduct a more comprehensive analysis of a stock’s fundamentals before making investment decisions.