What Is
Enterprise Value (EV)?
Explained!
Enterprise Value (EV)
Enterprise Value (EV) is a way to measure
how much a company is worth. It
considers both the value of its shares
(market capitalization) and the money it
owes (debts).
Imagine you want to buy a company. The
price you'd pay is not just the value of its
shares, but also the debts you'll have to
take over. So, Enterprise Value gives you
the total cost of acquiring the company.
Formula of EV
EV = Market Capitalization + Total Debt -
Cash and Cash Equivalents
OR
EV = Common Shares + Preferred Shares
+ Market Value of Debt + Noncontrolling
Interest – Cash and Equivalents
Components of EV
Equity value: Equity value of a company is
generally determined by multiplying its
fully-diluted shares outstanding with the
current market price of a stock.
Total Debt: Total debt is the contribution of
banks and other creditors. They are
interest-bearing liabilities and are
comprised of short-term and long-term
debt.
Preferred Stock: Preferred stocks are
hybrid securities that have features of both
equity and debt. They are treated more as
debt, in this case, because they pay a fixed
amount of dividends and have a higher
priority in asset and earning claims than
common stock.
Noncontrolling (Minority) Interest: It is
the portion of a subsidiary not owned by
the parent company (who owns a greater
than 50% but less than 100% position in the
subsidiary). The financial statements of
this subsidiary are consolidated in the
financial results of the parent company.
Cash and Cash Equivalents: Refers to the
money the company has in its accounts and
highly liquid assets that can be quickly
converted into cash. These assets may
include cash in hand, money in bank
accounts, and short-term investments.
Why Enterprise Value Matters:
Comparable Assessment: EV allows
investors to compare companies of different
sizes and industries on an equal footing. By
considering both debt and equity, it provides
a more comprehensive measure of a
company's value.
Mergers and Acquisitions: When companies
consider mergers or acquisitions, EV is a key
metric. It represents the total cost of
acquiring the company, including taking
over its debt.
Debt Assessment: A high EV compared to
market cap could indicate that a company is
heavily indebted. Conversely, a lower EV
relative to market cap might suggest a more
debt-free or cash-rich company.
Market Perception: EV can reflect how the
market values a company beyond just its
stock price (market capitalization). A higher
EV relative to market cap may suggest
investors have confidence in the company's
growth prospects and earnings potential.
Investment Decisions: Investors use EV to
identify undervalued or overvalued
companies. A low EV relative to the
company's assets and earnings may be an
attractive investment opportunity.
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