I’ve had a few comments about my Xero valuation, a lot of which could be summed up by the words… “so what?”. In particular, people are asking if $3.55 means they should sell the family home, and load up on Xero stock (currently at $1.47). So understandably enough, theres a little bit of confusion around the value of Xero.
So what does $3.55 mean? It means that if everything I predicted comes to pass, then yes, you should load up on Xero. But hold on there Flash, you have to have some idea of the likelihood of predicting all that correctly. Which is 0%. Some bits are going to be wrong.
so we’re down to probabilities. Xero is worth ($3.55 x probability of sunny scenario + $X x prob of scenario X + $Y x prob of scenario Y + …) where all the probs sum to 1.
Lets look at a simple case, the sunny side versus the complete failure of the company.
($3.55 . 60% + $0.47 . 40% )
So, 60% chance of being valued at $3.55 versus a 40% chance of going broke, and selling assets at the net tangible asset value ($0.47).
($3.55 * 33% + $1.77 * 33% + 0.47*33%)
33% chance of sunny side or a 33% chance of being worth half that (because of lower customers/revenue growth) or a 33% chance of going broke.
In summary, depending on what you think the probabilities are will change your view of the current price. If you’re way bullish on Xero taking over the world, the current price is cheap. My take is that there is a lot of uncertainty around Xero, which will be reduced as each earnings release comes out. So for me, I would only have a small, speculative stake, waiting to add or reduce as those earnings releases come out.
Don’t sell your house in other words 🙂