Question

Explain why the intrinsic value of a firm may be different from its market value

Answer 1

Intrinsic value is the actual true value of a company. It is used by Investors to find whether a company is overvalued or undervalued with respect to the market value. Based on that, the value investors recommend buying or selling of that particular company stock.

The investors perform certain analysis for coming to the intrinsic value of a company. It is a type of fundamental analysis whether the tangible and intangible assets are taken into account. The balance sheet, income statements, cash flow statements, everything are taken into consideration. An investor may project the free cash flow of the company into future and discount them to present value for determining the true value of the company, or he may use certain multiples like EV/EBITDA, P/E ratio, etc to come to a conclusion of the intrinsic value. He needs to thoroughly research about the company performance and industry performance to project the future earnings and there is a great deal of difficulty involved in these calculation.

However a market value represents the public view and sentiment over a company's current performance.It represents the actual current value of the compnay. The future growth are not taken into account. The market value represents the current supply and demand and how the investors are seeing the company . If the investment demand is strong, the intrinsic value will be lesser than the market value that will lead to overvaluation of the stock and vice versa.