Classic comments on valuation and, in particular, Discounted Cash Flow, by John Hempton (at Bronte Capital), back in 2017:
>"Proper valuations are far more art than science. DCF valuations - especially of something growing near or above the discount rate are famously sensitive to assumptions. The right comparison is to the Hubble Telescope: move direction a fraction of a degree and you wind up in another galaxy."
His article (linked below) used Coca Cola as an example:
[https://brontecapital.blogspot.com/2017/01/valuation-and-investment-analysis.html](https://brontecapital.blogspot.com/2017/01/valuation-and-investment-analysis.html)
A lot of posts here seem to simply follow the lines of (1) EPS will probably grow at \[x\]% because the OP wants to assume this or analysts say so; (2) OP also assumes discount rate of \[y\]; \[3\] therefore the stock is \[z\]% under-valued or over-valued.
With all respect I think this approach is misguided.
Between now and when you exit a stock, 3 things will typically happen: (1) earnings will grow or shrink; (2) P/E multiple will change; (3) the shareholder will get dividends.
It is relatively straightforward to think about these 3 steps If you think EPS will grow 20% in 3 years, P/E will expand 20% (say, from 20x to 24x) and dividends are 5% a year, then your return will be 59%:
(1 + 20%) x (1 + 20%) -1 + 5% x 3 = 59%
When you run a DCF, you are assuming some growth rates, including a perpetual growth rate, and a discount rate. It's the same math with just a lot more steps, so much so you can no longer think through the math in your head without a spreadsheet.
It is much more important to work out what the growth rate should be, and why.
To quote John again:
>The battle here is to work out what the salient details are. Sometimes they are whether young people will continue drinking Red Bull. Sometimes they are working out a technological change.
In rare cases they are working out valuation.
>Mostly valuation is simply about bounding a margin of safety. And most of that involves understanding the business anyway.
>If you work for a shop that requires a valuation for everything quit now. The pretence will either kill you or your performance.
