Capital market firms such as RJF are hard to value. This is because the rules they face are different to other companies, which can impact the way we forecast their cash flow. Maintaining a certain level of cash capital ratio is common for these financial firms to abide by, in order to minimize risks to their shareholders. Focusing on data points such as book values, with the return and cost of equity, may be useful for computing RJF’s true value. Today I’ll look at how to value RJF in a fairly useful and simple way.
What Model Should You Use?
There are two facets to consider: regulation and type of assets. United States’s financial regulatory environment is relatively strict. In addition, capital markets tend to not hold significant portions of physical assets on their balance sheet. This means the Excess Returns model is best suited for calculating the intrinsic value of RJF rather than the traditional discounted cash flow model, which has more emphasis on things like capital expenditure and depreciation.
Deriving RJF’s Intrinsic Value
The central assumption for Excess Returns is, the value of the company is how much money it can generate from its current level of equity capital, in excess of the cost of that capital. The returns in excess of cost of equity is called excess returns:
Excess Return Per Share = (Stable Return On Equity – Cost Of Equity) (Book Value Of Equity Per Share)
= (0.17% – 9.4%) x $52.67 = $3.86
Excess Return Per Share is used to calculate the terminal value of RJF, which is how much the business is expected to continue to generate over the upcoming years, in perpetuity. This is a common component of discounted cash flow models:
Terminal Value Per Share = Excess Return Per Share / (Cost of Equity – Expected Growth Rate)
= $3.86 / (9.4% – 2.9%) = $59.48
Combining these components gives us RJF’s intrinsic value per share:
Value Per Share = Book Value of Equity Per Share + Terminal Value Per Share
= $52.67 + $59.48 = $112.15
This results in an intrinsic value of $112.15. Relative to today’s price of US$89.01, RJF is , at this time, priced beneath its true value. Therefore, there is potential room to profit from mispricing if you bought RJF at $112.15. Pricing is only one aspect when you’re looking at whether to buy or sell RJF. Analyzing fundamental factors are equally important when it comes to determining if RJF has a place in your holdings.
For capital markets, there are three key aspects you should look at:
- Financial health: Does it have a healthy balance sheet? Take a look at our free bank analysis with six simple checks on things like leverage and risk.
- Future earnings: What does the market think of RJF going forward? Our analyst growth expectation chart helps visualize RJF’s growth potential over the upcoming years.
- Dividends: Most people buy financial stocks for their healthy and stable dividends. Check out whether RJF is a dividend Rockstar with our historical and future dividend analysis.
For more details and sources, take a look at our full calculation on RJF here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.