Warren Buffett has always said the foundation of a sound investment is to have a so-called margin of safety. What does that mean exactly? "We insist on a margin of safety in our purchase price," Buffett said in his annual letter to shareholders as long ago as 1992. "If we calculate the value of a common stock to be only slightly higher than its price, we're not interested in buying.
The calculation So how low of a price in relation to a stock's intrinsic value is low enough to guarantee sufficient margin of safety? Buffett said he learned from Graham a very simple formula, which is to figure out a company's net working capital and try to buy it at a third of that. A company's working capital is calculated by subtracting its current liabilities from its current assets. However, this formula has its limits when applied to the current stock market environment.
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