When valuing a company, there are two main methods that investors use: enterprise value and equity value. While both these methods are used to determine a company’s overall worth, they differ in their approach and the information they provide. In this article, we’ll explore the differences between enterprise value and equity value and how they can be used to make investment decisions.
What is Enterprise Value?
Enterprise value (EV) is the total value of a company’s assets, both tangible and intangible, as well as its debt and other liabilities. It represents the amount that an investor would have to pay to acquire the entire company, including its debt. To calculate enterprise value, you need to add a company’s market capitalization, debt, minority interest, and preferred equity, then subtract any cash and cash equivalents.
Let’s say a company has a market capitalization of $500 million, debt of $100 million, preferred equity of $50 million, and cash of $25 million. Its enterprise value would be calculated as follows: $500M (market cap) + $100M (debt) + $50M (preferred equity) – $25M (cash) = $625M (enterprise value)
What is Equity Value?
Equity value (EV) is the total value of a company’s shares of stock that are outstanding, plus any retained earnings. It represents the value of the company’s equity or ownership, and is calculated by multiplying the number of shares outstanding by the current stock price.
Let’s say a company has 10 million shares outstanding and a current stock price of $50 per share. Its equity value would be calculated as follows: 10M (shares outstanding) x $50 (current stock price) = $500M (equity value)
The main difference between enterprise value and equity value is that enterprise value takes into account the company’s debt and other liabilities, while equity value only looks at the value of the company’s shares. This means that enterprise value is a more comprehensive measure of a company’s total value. Another key difference is how these values are used in investment analysis. Enterprise value is often used to determine the value of a company for acquisition purposes, while equity value is used to evaluate a company’s stock performance.
Using Enterprise Value and Equity Value for Investment Decisions
When making investment decisions, it’s important to consider both enterprise value and equity value. Enterprise value can help you determine if a company is undervalued or overvalued, while equity value can help you evaluate the potential returns of investing in a company’s stock. If a company’s enterprise value is significantly higher than its equity value, it may be a sign that the company has a lot of debt or other liabilities that are impacting its value. On the other hand, if a company’s equity value is significantly higher than its enterprise value, it may be an indication that the company’s stock is undervalued.
In summary, enterprise value and equity value are two important methods for valuing a company. While they both provide valuable information, they differ in their approach and the insights they offer. Understanding the differences between these methods can help investors make informed decisions about where to invest their money.