Some investors can't take their chances with high-flying, impossible-to-value stocks such as Tesla Motors and LinkedIn. They need to be able to quantify their opportunity. These risk-averse investors often rely on Benjamin Graham's margin of safety, looking to buy $1.00 worth of value with $0.75.
The market expects Microsoft's business to slowly decline (or keep up with the historical rate of inflation, at best) over the coming years -- at least that's what the stock's price indicates. At 10.2 times free cash flow, expectations for Microsoft are extremely low.
But a look at Microsoft's business segments individually indicates that Microsoft is still growing. In fact, analysts, on average, estimate EPS to grow at about 9% per annum over the next five years.
And Microsoft's Entertainment and Devices division, though only 3% of third-quarter operating income, could be a future growth driver for the company. Revenue for the division, after adjustments, was up 33% from the year-ago quarter in the company's most recent earnings release.
If you're looking for investment opportunities with a significant margin of safety, Microsoft could be a good fit. Based on a very conservative discounted cash flow valuation, Microsoft trades at a 29% margin of safety -- not bad for a business that generated $27.5 billion in free cash flow on $76 billion in sales over the trailing 12 months.
eBay's PayPal expects the volume of global mobile payments it facilitates to increase to $20 billion in 2013, up from just $14 billion in 2012. PayPal is riding a tidal wave of mobile payment adoption. A recent study by eMarketer found that purchases made on phones and tablets increased 81% in 2012 from the year before. By 2016, eMarketer expects the $25 billion market will grow to $87 billion.
PayPal, as the leader in mobile payments, accounted for 40.5% of eBay's first-quarter revenue. So you can safely assume eBay's position will allow it to benefit from the growth of mobile payments.
Besides, eBay's PayPal business isn't the only area experiencing healthy growth rates. Its Marketplaces segment (the other 59.5% of revenue) grew by 13% in the first quarter from the year-ago quarter, compared with the 18% growth in revenue of its Payments segment.
Based on a very conservative discounted cash flow valuation, investors can buy into this stock at about a 5% margin of safety at today's prices, around $52 per share. Though the margin of safety is small, eBay is arguably a core stock that could ride the waves of e-commerce growth and mobile payment adoption for years to come. The fact that the stock even trades at a price that is possibly just slightly below fair value makes this core stock an attractive investment opportunity.
Is bargain-hunting a science?
We know it's impossible to perfectly quantify any investment opportunity. But that doesn't mean a worthwhile try at quantifying a bargain is time wasted. The combination of a conservative estimate of a business' future and the requirement of a reasonable margin of safety could merit addition to your watchlist.
So if you're looking for quantifiably discounted investment opportunities, now might be a good time to take a closer look at Microsoft and eBay.
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