Introduction to Understanding Value

Investors often erroneously assume that a great company translates into a great investment. There are several ways to identify superior businesses; here we bring up valuation. Finding strong companies is crucial in the investment process, but it is equally important to determine what those companies’ stocks are actually worth. Your goal as an investor should be to find wonderful businesses and invest in them at reasonable prices. If you avoid confusing a great company with a great investment, you will already be ahead of many of your investing peers.

Suppose you are buying a car. Before you make a purchase, you will probably want to do some research, identify a few promising candidates, and take each for a test drive. But throughout the process, you will also be aware of price. After all, you would not pay $50,000 for a used clunker, though you might pay that much for a new luxury car. Likewise, you might never spend $200,000 on a car, no matter the make.

The same thing should be true if you are thinking about buying a stock.