THE LITTLE BOOK OF VALUATION BY ASWATH DAMODARAN

Key Concepts: The Two Sides of Valuation
Damodaran emphasizes that while many models exist, they boil down to two fundamental approaches, which should ideally be used in tandem:

Intrinsic Valuation (Discounted Cash Flow): This approach estimates the true, fundamental value of an asset based on the present value of all expected future cash flows, adjusted for risk.

• The Four Inputs: The process requires estimating four basic inputs: cash flows from existing assets, expected growth in those cash flows, the cost of financing (discount rate), and the terminal value of the firm at the end of the forecast period.
• Focus on Cash Flow: The book stresses the use of Free Cash Flow to Equity (FCFE) or Free Cash Flow to the Firm (FCFF) as more meaningful metrics than traditional accounting profits.

Relative Valuation (Multiples): This method estimates an asset's value by looking at how the market is pricing "comparable" assets.

• The Three Steps: Find comparable assets, scale the prices to a common variable (e.g., Price/Earnings, Price/Sales), and adjust for differences in growth, risk, or cash flow potential between the companies.
• Market Sentiment: Relative valuation is quicker and often reflects the current market mood, but it can also be distorted by market bubbles or hype.

Valuation Truths: Damodaran offers crucial perspective:

• All valuations are biased: You almost always form an opinion before you start modeling, so be honest about your biases.
• Most valuations are wrong: Precision is a poor measure of quality. The goal isn't to be precisely right, but to be "less wrong" than everyone else.
• Simpler is better: Use the simplest model possible. Forecasting 10 years of cash flows is often asking for trouble; less is often more reliable.

The Little Book of Valuation

is a powerful, practical guide to developing the judgment and skepticism needed to invest with confidence and discipline in a complex market.