The Power of Earnings: Best Buy

Chartists, momentum investors, and palm readers may disagree, but at The Motley Fool we know that a stock is worth only the cash flow its underlying business generates. But as investors, how do we know if we're buying those cash flows on the cheap or if we're paying too much for future expectations?

Try using the earnings power value (EPV), a quick way to calculate the value of a company's current earnings. Once we've crunched the numbers, we can then compare the EPV to a company's stock price to determine the value that investors are giving its earnings growth. Then you can make the call if it's worth paying up for that future growth.

If you're new to the EPV way, check out our primer here. Don't worry: You don't need a Ph.D. in finance -- just a few numbers you can easily find at Fool.com. Let's take a quick look at the EPV for Best Buy (NYSE: BBY  ) .

First: What it does
I think most of us are familiar with electronics, big-box retailer Best Buy. The company has operations in the United States, Canada, Europe, China, Mexico, and Turkey, and sells a wide variety of entertainment products and services. The Best Buy family of brands includes Best Buy, Best Buy Mobile, Geek Squad, and The Phone House.

Second: The value of today's earnings
Using our handy EPV primer from above and a 10% discount rate, we get the following for Best Buy:

EPV Cash Flow (TTM)

Current Earnings Value Per Share

Current Stock Price

Value of Growth Per Share

% Growth Implied in Stock Price

$2,260 million

$54.50

$34.91

($19.59)

NA

TTM = trailing 12 months.

Third: Is it worth it?
Now this isn't something you see every day. Our EPV calculation tells us that Best Buy is selling at a discount to the value of its current earnings. That means at current prices, you're getting all of Best Buy's future grow for free. Actually, it's better than free. You're theoretically getting paid for that future growth rather than having to pay for it. As I said, this isn't common and it's indicating one of three things: The current stock price is building in a contraction in Best Buy's business; something fishy is going on with the calculation; or we've found ourselves a bargain. In any event, some more analytical digging is definitely in order. We can start with the fact that analysts expect 9% earnings growth this year and 11% growth next year. An examination of the company's liabilities might also shed some light on the accuracy of our formula.

Fourth: Best Buy's EPV vs. 3 competitors
Let's see how Best Buy stacks up against three other companies playing in the electronic retailer space. Running these three companies through our EPV calculator gets us:

Company

Current Earnings Value Per Share

Current Stock Price

Value of Growth Per Share

% Growth Implied in Stock Price

Amazon.com (Nasdaq: AMZN  )

$38.85

$128.32

$89.47

70%

RadioShack (NYSE: RSH  )

$28.48

$20.00

($8.48)

NA

hhgregg (NYSE: HGG  )

$9.90

$22.41

$12.51

56%

Interestingly, like Best Buy, RadioShack is also selling at a discount to the value of its current earnings. However, Amazon and hhgregg have a significant amount of growth built into their stock prices. Remember, EPV is a handy tool to see what price investors are putting on a company's future. But it's just a starting point.

Should Best Buy's stock be trading at a discount to its EPV? Is there something the formula is overlooking? Let us know what you think by posting your comments below.

At the time of publication, Ron Gross did not own shares of any company mentioned. Ron is advisor of the Motley Fool Million Dollar Portfolio. Best Buy is an Inside Value pick. Amazon.com and Best Buy are Stock Advisor recommendations. Motley Fool Options has recommended a bull call spread position on Best Buy. The Fool owns shares of Best Buy. Try any of our Foolish newsletters today, free for 30 days. The Motley Fool has a disclosure policy.


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