The price of one share of a company is determined by the traders in the marketplace. This price is a perceived value of the traders, which is affected by many things including how well the company and the economy are doing. That is one reason why prices fluctuate so much. Another big factor is buy or sell demand. If one company becomes a hot trade then a flock of buyers could overwhelm the supply of shares for sale, causing the price to temporarily go higher.
Formula
Since share prices are all over the place sometimes, it can be useful to calculate an estimated ideal price. There are many ways to do that but the following method takes the approach of what would the whole company be worth if it was sold today. Here is the basic formula:
Price per Share = (Future Earnings + Assets – Liabilities) / Number of Shares
If you were to buy a company you would want to know how much cash, assets, and debt they had, along with how much profit they were making. You would also be concerned with how much profit they would be making a few years down the road. That is the most difficult part of the calculation because it requires an estimated guess.
How to Find the Numbers
Publicly traded companies are required to post their financial numbers every quarter, so this information is available on most major financial websites, including Yahoo! Finance.
Example – Company XYZ for Quarter 1:
Assets: $33.5 Billion (found in the Balance Sheet section as Total Assets)
Liabilities: $3.7 Billion (found in the Balance Sheet section as Total Liabilities)
Number of Shares: 315.9 Million (Market Cap divided by the Current Price)
Earnings for 2006: $3.1 Billion (found in the Income Statement as Net Income)
Earnings for 2007: $4.2 Billion
Earnings for 2008: $4.2 Billion
Earnings for 2009+: $4.0 to 5.0 Billion (this is where you have to guess)
Future Earnings: $90.0 Billion (assuming 20 years at $4.5 Billion per year)
Price per Share = $379.23 = ($90.0 Billion + $33.5 Billion – $3.7 Billion) / 315.9 Million
The Future Earnings is definitely the hardest number to come up with. With a big, solid company you might use 15 to 25 years in your calculation because a P/E ratio (Price to Earnings) of 15 to 25 is pretty common. If you are unsure about the company, you might use 5 to 10 years. The number to use here is based on how long you think the company can keep producing these profits. And of course you have to guess how much profit they will make in each of those years.
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