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# Johnson & Johnson Message Board

• cdanajackson cdanajackson Feb 12, 2010 4:09 AM Flag

## Fair value calculation using discounted cash flow model

Using conservative estimates and Warren Buffet's favorite metric based on "owner earnings", I ran a discounted cash flow model on JNJ stock and I find it to be about 30% undervalued.

Here are the particulars I used in my calculation:

5-year est. owner earnings growth rate=7.73%
years 6-8 owner earnings growth rates=6%,5%,4%
long term growth rate after year 8=3%

After running these numbers through my speadsheet, I come up with a fair value of \$85.05, net total debt.

If that number seems high, remember JNJ is a cash cow that has a history of using its cash to create shareholder value.

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• \$85 per share only if earnings are higher say about \$6/sh and div around \$2.50/sh.

• now all we have to do is wait til it gets to 85, then I'll pounce on the investor to buy from me.You have a great analysis as to why it should get there but trying to get the horse to drink the water is another matter.

• what were your assumptions about how much the growth will cost? that's the thing i never see in these "earnings/ growth" models. if JNJ earns and reinvests \$1, and the investment bears 15 cents per year forever, the \$1 *became* the annuity, where the \$1 lump sum and the \$1.50 present value BOTH seem to be included in the fair value calc.

notice that buffett himself takes pains to say that the _value_ of growth has to be considered very carefully. hence his obsession with ROE. In my view, you need to either use full growth and (dividends + net buybacks), or owner earnings and a much smaller premium for the value of the growth.

berkshire hathaway itself is a great example of this. if it grows 10% per year for the next decade, discounting the annuity (at 10%) yields a PV of 10* current earnings. but since the growth consumes 100% of the earnings the company takes in, the tenth year earnings INCLUDES the amortized reinvested year 1-9 earnings. PV would be more properly 1* current earnings- only the tenth year are distributable to owners. i'm not saying BRK is worth 1* earnings, i just picked the numbers to make calculations easy.

• What is the discount rate you are using for the years?

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