Investors who wish to outperform the market must first master a few key skills and be willing to put in some weekend work. The ability to appraise a stock is arguably the most critical skill investors can develop. Without this skill, investors are left dancing in the market’s winds, unsure whether a company’s future growth expectations are already baked into the stock price or if its shares are significantly discounted.

Almost everything in the financial news media is irrelevant background noise, but investors must be able to determine a stock’s genuine intrinsic worth. As a result, let’s take a deeper look at several strategies that investors have historically used to evaluate equities and how you may use them now to find inexpensive stocks.

Before we go into how to calculate a stock’s intrinsic value and whether it’s under- or over-valued, let’s define a stock. It is not a piece of paper or a ticker symbol displayed with some numbers on a screen. A single share of stock represents a small but real ownership stake in a company. The percentage of ownership of a stock is calculated by dividing it by the total number of shares outstanding. While there are various forms of stocks, ownership of a stock generally entitles the owner to corporate voting rights as well as any dividends paid.

Before purchasing these fractional ownership shares in a specific firm, it is critical to recognize that the stock’s intrinsic value is not always directly related to its current market price, despite what some would have you believe. Indeed, many people believe in the efficient market hypothesis, which asserts that all known information is now priced into a stock. This hypothesis implies that beating the market is nearly entirely a question of chance, rather than professional stock selection.

Because winning the market appears to be a difficult task, most proponents of this theory simply recommend investing in an index fund or ETF. While it’s difficult to dispute with the suggestion – after all, passively investing in an index fund provides investors with rapid diversification in various stocks for cheap fees and immediate access to the stock market’s historical performance – it doesn’t take long to spot the flaws in the notion.

When it comes to valuing a stock, practically all investors will turn to the P/E ratio. This metric, which stands for price-to-earnings, is determined by dividing the stock price by the earnings per share (EPS). The lower the P/E ratio, the more earnings power investors are purchasing per share, or, in other words, the shorter the time it takes for a stock to pay back investors in earnings.

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Let’s look at Walmart’s (NYSE: WMT) P/E ratio as an example. The company reported diluted earnings per share of $3.28 for the 2017 fiscal year. As I write, the stock price of the corporation is $86.84. To calculate the P/E ratio, simply divide the stock price by the earnings per share:

86.84/3.28 = 26.48

Walmart’s stock now has a P/E ratio of 26.48. At the time of writing, this is the number (or something similar to it) seen on most financial websites, but is it the most accurate? This P/E ratio was computed using GAAP earnings (generally accepted accounting rules).

GAAP is a set of global standards that public corporations must adhere to when reporting earnings. While GAAP regulations were established to provide a consistent standard to prevent some corporations from concealing their performance from investors, the truth is that they do not always provide an accurate picture of how a business is functioning.

There are numerous reasons why GAAP results may not accurately reflect a company’s operations. Perhaps the corporation sold an underperforming subsidiary and now has to include the proceeds as earnings in the quarter, making the earnings appear to have increased. Perhaps the corporation recorded a large tax benefit, causing earnings to temporarily jump.

As a result, most corporations (but not all) publish adjusted or non-GAAP earnings to more accurately depict how the business is operating. Looking at Walmart, we can see that this is also the case. Walmart posted a full-year adjusted EPS of $4.42 in its fourth-quarter earnings report (which is usually available on the company’s investor relations website).

Companies virtually usually provide reconciliations for GAAP vs. non-GAAP data when they report adjusted numbers. In the case of Walmart (see page 12 of its fourth-quarter earnings report), adjusted EPS is calculated by include items such as a loss on debt extinguishment, an employee lump sum bonus, restructuring expenses, and a few other miscellaneous charges.

Using the adjusted EPS, we find Walmart’s P/E ratio much more palatable:

86.84/4.42 = 19.65

Let’s keep our Walmart example going. We’ve already concluded that Walmart currently trades at a P/E ratio of 19.65 based on adjusted earnings. In the same fourth-quarter earnings announcement, the company offered EPS guidance for fiscal 2019 of $4.75 to $5.00. When a firm provides a range, I like to split the difference, thus I’d choose $4.87 as the midpoint to get the company’s forward P/E. With $4.87 as a starting point, we have:

86.84/4.87 = 17.83

This tells us that at its present stock price, Walmart’s P/E ratio would be this a year from now. If Walmart hits its midpoint projection, earnings will increase by 10.2% over the next year. If we had to compute Walmart’s PEG ratio based on its one-year profits growth estimates, we would divide the company’s current P/E ratio by its predicted earnings growth:

19.65/10.2 = 1.93

While there is no unambiguous buy or sell signal based on a specific figure, a stock with a PEG ratio less than 1.0 is regarded an extraordinary value for the predicted growth rate.

There’s more to stock valuation than just numbers. Investors must also carefully analyze qualitative characteristics, such as a company’s economic moat. Companies’ competitive advantages, such as a network effect, cost advantages, high switching costs, or intangible assets (e.g., patents, legislation, or brand recognition), are all examples of moats. When determining the worth of a company, quality should be carefully addressed. According to Warren Buffett, “it’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.”

Having said that, it is critical for investors to grasp how to determine a company’s intrinsic value apart from its present share price. Anyone attempting to value stocks and companies while investing will benefit from having the aforementioned tools in their toolbox.