Damodaran vs. Buffett on ValuationCopy Anchor Link

Damodaran vs. Buffett on ValuationCopy Anchor Link

aswath-damodaran and warren-buffett share the same underlying machinery — a discounted-cash-flow frame — but they relate to it in opposite ways. Damodaran treats valuation as an explicit, disciplined procedure whose inputs must be named and interrogated; Buffett treats intrinsic-value as an inescapably fuzzy concept and spends his energy on the business rather than the arithmetic. See dcf-valuation and terminal-value.

Buffett: intrinsic value is a concept, not a computationCopy Anchor Link

Buffett's definition is a DCF in one sentence. Intrinsic value is "the discounted value of the cash that can be taken out of a business during its remaining life", and — the crucial caveat — "Anyone calculating intrinsic value necessarily comes up with a highly subjective figure". In the 1992 letter he traces the formula to John Burr Williams and states it as the single test: "The value of any stock, bond or business today is determined by the cash inflows and outflows - discounted at an appropriate interest rate - that can be expected to occur during the remaining life of the asset", and the cheapest investment by that calculation is the one to buy, "irrespective of whether the business grows or doesn't."

But having stated the formula, Buffett declines to run it. His objection is precision: the same preference for being approximately right rather than precisely wrong carries over to valuation. He prefers to judge the durability of the business and let the discounting remain implicit — the See's and GEICO analyses are built on certainty of economic characteristics, not on a spreadsheet of explicit year-by-year cash flows.

Damodaran: valuation is a disciplined, biased, imprecise procedureCopy Anchor Link

Damodaran starts from the opposite premise and then converges on the same humility. His opening move is to name valuation's limits as myths to be disabused. Valuation is not an objective search for "true" value, because "All valuations are biased"; and a good valuation does not deliver precision, because "There are no precise valuations" — indeed, "The payoff to valuation is greatest when valuation is least precise."

Where Buffett stops at the concept, Damodaran insists on the discipline of making every input explicit — the riskfree rate, the equity risk premium, the cash-flow horizon — so that the sources of bias and imprecision are visible. His course material grinds through the mechanics Buffett leaves unspoken: the riskfree rate must match the currency and the maturity of the cash flow being valued, and time-varying rates matter only when there is genuine uncertainty about the cash flows. His answer to imprecision is not to abandon the model but to confront it: estimation error can be reduced with more information, while uncertainty error cannot, so the analyst does what-if analysis and simulation rather than pretending to a point estimate.

The comparisonCopy Anchor Link

Both men reject the idea that valuation yields a precise, objective number. The difference is what each does about that. Buffett internalizes the fuzziness and spends his effort on the business — will it still be earning high returns in twenty years — leaving the discount rate and the terminal growth unstated. Damodaran externalizes the fuzziness into a procedure whose assumptions are named, stress-tested, and displayed as a distribution. They are not so much disagreeing as dividing the same task: Buffett optimizes for the quality of the cash-flow judgment, Damodaran for the honesty of the model. One could say Buffett runs the DCF in his head and Damodaran runs it on the page — the shared ground being cost-of-capital and the shared caution that precision is the enemy of both.

SourcesCopy Anchor Link

• berkshire-hathaway/Letters-Markdown/1994 - Letter to Shareholders.md
• berkshire-hathaway/Letters-Markdown/1992 - Letter to Shareholders.md
• berkshire-hathaway/Letters-Markdown/2007 - Letter to Shareholders.md
• damodaran/markdown/valBrazil2007.md
• damodaran/markdown/session6.md