What does valuation mean in investing?
Valuation is the process of determining what a company is actually worth—not just what the market says it is worth today. The market may say Coca-Cola is worth a trillion dollars… maybe that’s warranted, maybe it isn’t. That uncertainty is exactly why valuation matters. Valuation looks at a company’s fundamentals and uses them to estimate its intrinsic value.
How do you value a company?
There are several approaches, but my preferred method is the discounted cash flow (DCF) model. The idea is simple: a company is worth the cash it will generate in the future, discounted back to today’s dollars. I think of it this way: If I owned this entire business, how much cash would it put in my pocket over time?
A commonly referenced shortcut is the P/E ratio (price-to-earnings). For example, Coca-Cola (KO) has a P/E of 23.08 as of 10/24/2025, meaning investors are willing to pay $23.08 for every $1 of earnings per share.
Valuations can vary widely between investors and institutions because a DCF depends on assumptions about the future. If I believed Coca-Cola would grow at 30% per year for the next decade, I would be willing to pay far more for the stock. Of course, that growth rate is unrealistic for Coca-Cola—but the point is that your assumptions about growth, profitability, and durability drive valuation.
Why do technology stocks trade at higher valuations?
Technology stocks—where we focus most of our investments—typically trade at higher multiples because investors expect faster growth. If a company is expected to grow earnings rapidly, its future cash flows are much larger, which justifies a higher price today. Tech companies can scale quickly, gain market share, expand margins, and benefit from business models like software and AI. That compounding potential supports higher valuation multiples than mature businesses like Coca-Cola.
What are the risks of growth investing?
One major risk is overpaying. As Warren Buffett says, “Price is what you pay, value is what you get.” Valuation is what keeps those two aligned. When you buy a high-growth company, you are dependent on that growth continuing. If it slows, the stock can suffer severe multiple compression.
Cisco in the late 1990s is a classic example. At one point it was growing over 50% per year, and by March 2000 it traded at more than 100 times earnings. Many believed it would become the world’s first trillion-dollar company. When the dot-com bubble burst, spending on networking equipment collapsed, customers went bankrupt or cut budgets, and growth slowed dramatically. The stock fell nearly 90% from 2000 to 2002. Cisco wasn’t a bad company—but at that price, it was a terrible investment. Investors had priced in decades of unrealistic growth.
I use a spreadsheet that helps me estimate what P/E multiple I should be willing to pay based on my required return, holding period, expected growth rate, and long-term growth in perpetuity. For example, if I require a 10% return, expect 7% growth for 10 years, and 2% growth for the next 40 years, I would be willing to pay about 16.6× earnings. Paying more than that means I would need to hold the investment longer or accept a lower return.
Holding period, growth during that period, and long-term growth all determine what return you can earn—independent of the current stock price. With today’s higher valuations, I would expect lower returns over the next few years unless growth accelerates significantly, such as through AI. Market corrections create opportunities to buy at better valuations and improve long-term returns.
You can pay any P/E, but you may have to wait a very long time to achieve your required return—and sometimes, as with Cisco, that growth never arrives.
Wrap-up
Valuation still matters, and while current valuations are not extreme, they are historically high. Could we be in a bubble? Maybe. Could we see another 5–10 years of strong growth? Also maybe. No one knows.
What matters is having a strategy and sticking to it. We use risk management tools—specifically put options—to protect against major market declines. These allow us to cap downside risk by locking in a known exit price if markets fall sharply.
I want you to know that the risks in today’s market are not lost on me. Valuation matters, and we have protections in place if a negative market event occurs.
Below are educational videos on markets, valuation, and the “Mark Cuban Hedge” we use in our portfolios, along with a DCF model I built in 2025 for Coca-Cola (KO).
Below is a button, if you click on that button it will take you to a valuation I did in 2025 for Coca-Cola (KO). This is called a DCF model like I talked about above. You can use a DCF model to value a business to see what the valuation should be based on your inputs and assumptions.