What is "At a Premium"?
"At a premium" is a phrase attached to a variety of situations where a current value or transactional value of an asset is above its fundamental value. The full phrase would be company X is trading at a premium to company Y, or a commercial building was sold at a premium to its underlying value, and so on. There can a variety of situations where an asset trades at a premium to its fundamental value, but the phrase also reveals the speaker's own personal assessment of the asset's intrinsic value - which may be the result of a bias.
- The phrase "at a premium" is used in both factual and opinion statements.
- In a takeover, the target stock is often acquired at a premium to market value - this is a factual usage of the phrase.
- When financial pundits say one stock is trading at a premium to another stock or its own fundamental value, there is often some opinion mixed into the assessment.
- Stock valuation is complex, so it is difficult to definitively say a particular stock costs more than it should. That is why the market is the final say in price discovery.
Understanding "At a Premium"
"At a premium" is meant to show that an asset is priced higher than it is actually worth. A discussion of intrinsic value versus market value can quickly get bogged down, but there are uses of "at a premium" that are undeniably accurate. In the case of a takeover, for example, the acquiring company often purchases the stock of a target company at a premium to market value. This is known as the acquisition premium and is actually recognized as goodwill on the acquirer's balance sheet post acquisition. Any offer or proposed merger being discussed at a price point above the current market price for that asset can also be said to be at a premium.
Similarly, some assets will trade at a premium to some key indicator that is usually more closely aligned with the market price. For example, a closed-end fund may trade at a premium to its net asset value (NAV) per share, with that figure usually being expressed as a percentage. So the fund may have a NAV of $10 a share but trade at $11, a premium of 10%.
"At a Premium" and Stock Comparisons
"At a premium" is also used when comparing two stocks that are judged to be similar. For example, if Apple is trading at $185 a share and Microsoft is trading at $123 a share, Apple can be said to be trading at a premium to Microsoft. Even then, there is the fact that the number of shares outstanding differ, making it an flawed comparison before we even address the question of how similar Apple and Microsoft really are. However, this type of premium comparison is more commonly applied to specific ratios, such as the price-earnings ratio of the two stocks. Using a ratio or other key performance indicator side-steps some of comparison issues, but this practice can still be misleading.
Stock A may trade a premium to stock B, but there are many situations where stock A is still the superior investment no matter the premium. Perhaps stock A has a better business model, or a better cost structure, or is a steady performer in challenging markets, or is really not overvalued at all given its revenue growth. While the opinions in financial media can be enlightening, it is important for investors to do their research before deciding that a stock is trading at premium compared to another stock or its own intrinsic value. The market price right now is the market price. Figuring out the intrinsic or fair value that a stock should trade at is much less clear.