Warren Buffet's 1981 Formula for quick valuation

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Here is a short technical note Warren Buffet's 1981 formula. I came across this from the Money Magazine, June 2009 issue. Hence I do not guarantee that Money Magazine's content is correct or even if this is truly a formula used by Warren Buffet. However, after analysing the formula for myself, I see the merit of it. In fact I will be including this so called Buffet's 1981 formula in my future article which explains my 3-fold Valuation method to decide on buying stocks.

The Buffet's 1981 formula is this:

Value = (ROE / Required Return) x Equity Per Share

where
ROE = Rate of Return of the Company of interest (in %). This can be calculated using Net Profit After Tax divided by Total Equity.

Required Return = Pre-tax required rate (in %) that you would like to get for your investment. For example you may wish to use a long term deposit or long term government bond rate for this.

Equity Per Share = the Equity of a company divided by the total number of shares. These figures can be obtained from the company's annual reports.

This is a quick and simple way to value a company, to see if the company is priced more or less than it is of value to you. Your input comes into the Required Return where you can choose how much you expect from this investment.

Then the formula will produce the value of the company per share. Simply compare this with the current price to see if it is over or under priced. Using this model, a company that can generate a higher return on equity is worth more than one that cannot. Also a company that generates a high ROE and is able to retain all of its earnings and continue to make higher returns, is worth more than a business with the same ROE but forced to pay most of its earnings out as dividends.