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What is enterprise value (EV)?

Enterprise Value (EV) is one of the important financial indicators to help investors evaluate the actual value of a business.

• 3 min read

Enterprise Value (EV) is one of the important financial indicators to help investors evaluate the actual value of a business.

Summary
  • EV helps investors have a more comprehensive view of the price to buy a business and clean it
  • If 2 businesses that have equalized, the guy who has an EV is lower, the price should be lower

Definition and formula#

EV reflects the total value of the business including debt and equity. The formula calculates the Enterprise Value as follows:

Enterprise Value = Market Capitalization+ Total Debt - Cash and Cash Equivalents

In there:

  • Market Capitalization: Calculated by multiplying the current stock price with the total number of shares in circulation (share price * Total Shares outtranding). Some documents have additional preferred shares, options, ... but well, to simply ignore those.
  • Total debt (total debt): Including all short -term and long -term debts of the business.
  • Cash and Cash Equivalents (cash and cash equivalents): cash or assets can easily be converted into cash.

Misunderstandings#

At this point, a question slipped:

How the monster "business value" adds debt ???

So the more debt is, the higher the business value? After a while, I found that the problem lies in that I am entangled in the two words "values". Should have been, EV should be read fully: How much money I will have to spend to buy this damn business without having to be afraid of any creditors to come to find in the future? EV does not reflect the "good" or "bad" value of a business.

Thus, if the two enterprises have equalized capitalization but the debt structure and cash are different, they certainly cannot have the same value.

For example#

Suppose two companies A and B have the same market capitalization of US $ 100 million, but:

  • Company A has owes 50 million USD and cash is 10 million USD.
  • Company B has no debt nor cash.

If we only compare the market capitalization, we will see the two companies have the same value. However, when calculating EV:

  • Company A: EV = 100 + 50 - 10 = 140 million USD
  • Company B: EV = 100 + 0 - 0 = 100 million USD

Thus, EV of Company A is US $ 140 million and EV of Company B is USD 100 million. This difference reflects that when buying company A, buyers not only pay 100 million USD for equity but also suffer an additional $ 50 million debt, and are deducted 10 million USD in cash. This helps buyers and investors have a more comprehensive view of the actual value and the cost of each business.

The conclusion here is that, if two businesses that capitalize are equal, whoever has a lower EV, the price is lower.

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Meaning of Enterprise Value#

Summarizing the pants, I do not like to understand Value is "value" and EV has the following 3 meanings:

  • Comprehensive evaluation: EV helps investors have a more comprehensive view of the price to buy a business and clean it compared to using only every market capitive.
  • More accurate comparison: When comparing EV among different companies, investors can assess which company is really better value without being affected by the debt structure.
  • M&A (Merging and Merging): EV is an important indicator in M&A deals, helping to determine the purchase value of a business.

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