9/4/2021 Enterprise Value (EV) - Formula, Definition and Examples of EV

What is Enterprise Value (EV)?

Enterprise Value (EV) is the measure of a company’s total value. It looks at the entire market
value rather than just the equity value, so all ownership interests and asset claims from
both debt and equity are included. EV can be thought of as the e ective cost of buying a
company or the theoretical price of a target company (before a takeover premium is
considered).

The simple formula for enterprise value is:

EV = Market Capitalization + Market Value of Debt – Cash and Equivalents

The extended formula is:

EV = Common Shares + Preferred Shares + Market Value of Debt + Minority

Interest – Cash and Equivalents

Image from CFI’s free Introduction to Corporate Finance Course.

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9/4/2021 Enterprise Value (EV) - Formula, Definition and Examples of EV

The value of the company can be derived from the assets it owns. However, obtaining the
market value of each and every asset can be quite tedious and di cult. What we could do
instead is look at how the assets have been paid for. The simple accounting equation can
serve as a guide by looking at assets as the application of funds and both liabilities and
shareholder’s equity as the sources of funds used to nance those assets. When we say
value, we mean the current or market value of the company, so it’s the market value of
liabilities and the market value of equity that we consider.

What are the Components of EV?

Equity Value

Equity value is found by taking the company’s fully-diluted shares outstanding and
multiplying it by a stock’s current market price. Fully-diluted means that it includes in-the-
money options, warrants, and convertible securities, aside from just the basic shares
outstanding. If a company plans to acquire another company, it will need to pay that
company’s shareholders by paying at least the market capitalization value. This alone is not
considered an accurate measure of a company’s true value, and for that reason, other items
are added to it as seen in the EV equation.

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9/4/2021 Enterprise Value (EV) - Formula, Definition and Examples of EV

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. The amount of debt gets
adjusted by subtracting cash from it because, in theory, when a company has been
acquired, the acquirer can use the target company’s cash to pay a portion of the assumed
debt. If the market value of debt is unknown, the book value of debt can be used instead.

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 xed amount of dividends and have a
higher priority in asset and earning claims than common stock. In an acquisition, they
normally must be repaid just like debt.

Non-Controlling (Minority ) Interest

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9/4/2021 Enterprise Value (EV) - Formula, Definition and Examples of EV

Non-controlling interest 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 nancial
statements of this subsidiary are consolidated in the nancial results of the parent
company.

We add this minority interest to the calculation of EV because the parent company has
consolidated nancial statements with that minority interest; meaning the parent includes
100% of the revenues, expenses, and cash ow in its numbers even though it doesn’t own
100% of the business.

By including the minority interest, the total value of the subsidiary is re ected in EV.

Learn more about minority interest in enterprise value calculations.

Cash and Cash Equivalents

This is the most liquid asset in a company’s statement. Examples of cash equivalents are
short-term investments, marketable securities, commercial paper, and money market
funds. We subtract this amount from EV because it will reduce the acquiring costs of the
target company. It is assumed that the acquirer will use the cash immediately to pay o a
portion of the theoretical takeover price. Speci cally, it would be immediately used to pay a
dividend or buy back debt.

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9/4/2021 Enterprise Value (EV) - Formula, Definition and Examples of EV

Why is Enterprise Value used?

Enterprise Value is often used for multiples such as EV/EBITDA, EV/EBIT, EV/FCF, or EV/Sales
for comparable analysis such as trading comps. Other formulas, such as the P/E ratio,
usually don’t take cash and debt into account like EV does. Hence, two identical companies
that have the same market cap may have two di erent enterprise values.

For instance, Company A has $60 million in market cap, $20 million in cash, and carries no
debt. Company B, on the other hand, also has $60 million in market cap, but has no cash,
and carries $30 million of debt. In this simple scenario, we can see that Company A is
cheaper to buy because it doesn’t have any debt to pay o creditors.

Enterprise Value is very useful in Mergers and Acquisition situations, especially with
controlling ownership interests. In addition, it is useful for comparing companies with
di erent capital structures because a change in capital structure will a ect the amount of
enterprise value.

Applications in Financial Modeling

In nancial modeling, it is common practice to model Free Cash Flow to Firm (FCFF), which is
based on the cash ow derived from 100% ownership of all assets and, therefore,
determines a company’s Enterprise Value.

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9/4/2021 Enterprise Value (EV) - Formula, Definition and Examples of EV

As you can see in the example above, row 172 produces Unlevered Free Cash Flow (the
same thing as FCFF). From there, the XNPV function is used to calculate Net Present Value,
which is the EV in cell C197.

The above screenshot was taken from CFI’s nancial modeling courses.

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