OK. So using your example, the DFCF = $15, yet the stock price averages $10. So that seems to me to be a pretty good discount to the market price. So I would consider buying 100% of that company for the $1,000 that it cost me, because I could turn around and sell the company for $1,500.
In fact, this is one of the biggest reasons corporate takeovers used to occur. Some bright MBA working for a corporate raider would figure out that another company was throwing off a bunch of free cash, yet was reporting losses on the income statement. So they'd go in and lowball the company talking about how they were going to turn it around blah blah...and they'd get a great deal.
Now back to your example. I'd love to buy that company at that discount, because once I was owner, I could stop issuing options or greatly curtail them and the shares would start to increase in value very quickly straight up to $15.
So Cisco is a case in point. They are throwing off free cash flows at a rate that is allowing them to buy back enough shares not only to offset options issuance dilution and acquisitions, but also to reduce fully dilute shares by 2% in the last 6 mos. So if you work that into the figures, it really does bump up their valuation.
Can you imagine if Cisco stopped issuing options or cut them down dramatically? My feeling is that this stock is a coiled spring. All the elements are in place for it to really take off.
Here's a prediction for you. If the powers that be decide that all companies need to expense stock options, which I give a 50% chance of occurring, then I think the probability is extraordinarily high that you'll see Cisco either stop issuing options or cut it back dramatically (90% probability). And if that occurs, I would bet we'd see a very quick rise in the stock to the $20 per share level. I created a decision tree based on these probabilities to calculate an expected value and that came out to $19.20 per share.
So again, I come to the conclusion that Cisco is a good buy at this level. I think there is a good chance we'll see Cisco at $20 by the end of this year, if Iraq and North Korea are both resolved and we don't get another major terrorist attack. |
