One of the most difficult industry to value is capital markets, given that they adhere to different rules compared to other companies. For instance, these businesses must hold a certain level of cash reserves on the books as a safety precaution. Focusing on data points such as book values, along with the return and cost of equity, is practical for estimating TRI’s value. Today we’ll take a look at how to value TRI in a reasonably accurate and simple approach. View our latest analysis for Thomson Reuters
What Model Should You Use?
There are two facets to consider: regulation and type of assets. The regulatory environment in Canada is fairly rigorous. Moreover, capital markets tend to not hold large portions of tangible assets on their balance sheet. As traditional valuation models put weight on inputs such as capex and depreciation, which is less meaningful for finacial firms, the Excess Return model places importance on forecasting stable earnings and book values.
The central belief 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 above the cost of equity is known as excess returns:
Excess Return Per Share = (Stable Return On Equity – Cost Of Equity) (Book Value Of Equity Per Share)
= (10.9% – 8.43%) * $18.59 = $0.46
We use this value to calculate the terminal value of the company, which is how much we expect the company to continue to earn every year, forever. This is a common component of discounted cash flow models:
Terminal Value Per Share = Excess Return Per Share / (Cost of Equity – Expected Growth Rate)
= $0.46 / (8.43% – 2.13%) = $7.3
Putting this all together, we get the value of TRI’s share:
Value Per Share = Book Value of Equity Per Share + Terminal Value Per Share
= $18.59 + $7.3 = CA$33.13
Given TRI’s current share price of $50.85, TRI is , at this time, priced higher than its intrinsic value. Therefore, there’s no benefit to buying TRI today. Pricing is one part of the analysis of your potential investment in TRI. Fundamental factors are key to determining if TRI fits with the rest of your portfolio 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 TRI going forward? Our analyst growth expectation chart helps visualize TRI’s growth potential over the upcoming years.
- Dividends: Most people buy financial stocks for their healthy and stable dividends. Check out whether TRI is a dividend Rockstar with our historical and future dividend analysis.
For more details and sources, take a look at our full calculation on TRI here.