Lesson 12 of 12 · 5 min · Valuation

Putting it all together

Lemon Co, judged step by step: every number, which way is good, and against what.

1. The full check is four questions, always in this order. Is it a good business? Is it safe? Is the price fair? And what has to go right?

2. One, quality. Higher is better here. Return on capital: 15% against 10% for its rivals. Operating margin: 20% against 14%. Lemon Co is clearly the better business.

3. Two, safety. Lower debt is safer. Net debt is 2 times operating profit, against 1.5 for rivals, so a bit more debt. Interest is covered 5 times, which is comfortable. Safe enough, but watch the debt.

4. Three, price. For multiples lower is cheaper, for yields higher is cheaper. P/E 20 against 17, EV/EBIT 14 against 12, free cash flow yield 4% against 5%. On every measure Lemon Co costs more than its rivals, roughly a sixth to a quarter more.

5. Is the premium deserved? Its returns are half again as high as its rivals’, and its margins are higher too. Paying a sixth or a quarter more for that is reasonable. Against its own past, a P/E of 20 is only a little above the usual 18.

6. Four, what must go right. The earnings yield is 5%. For about 9% a year, profits must grow about 4% a year. Sales grew about 6% a year over the last five years, so 4% asks for less than its track record.

7. The verdict: a better than average business at a somewhat higher price. The premium is backed by quality, and the growth it needs is below its record. Reasonable to own, not a bargain.

8. Last, write down what would change your mind. At $22.50 a share the P/E would be 15, below its rivals, and it would need only about 2% growth. If growth stalls below 4%, or debt keeps rising, the case gets weaker.

9. This is how every stock page on Ryufin is built: the same questions, the numbers from the company’s own filings, and a peer median beside them.