Enterprise / Equity Value Basics

Question 1

Why do we look at both Enterprise Value and Equity Value?

Answer 1

Enterprise value calculates the overall value of the business including debt and equity, while equity value excludes debt.

Equity value is more visible to the public and enterprise value represents the company’s true picture

Question 2

When looking at an acquisition of a company, do you pay more attention to Enterprise or Equity Value?

Answer 2

Enterprise value because it reflects the mandatory debt repayment, which gives a more accurate picture of how much the company in acquisition is really worth.

Question 3

What’s the formula for Enterprise Value?

Answer 3

EV = Equity Value + Debt + Preferred Stock + Minority Interest - Cash

Question 4

Why do you need to add Minority Interest to Enterprise Value?

Answer 4

Whenever a company owns over 50% of another company, it is required to report the financial performance of the other company as part of its own performance

Question 5

How do you calculate fully diluted shares?

Answer 5

Calculate the net increase in outstanding shares from options ==> Calculate the total outstanding shares ==> Calculate the equity value

Question 6

Let’s say a company has 100 shares outstanding, at a share price of $10 each. It also has 10 options outstanding at an exercise price of $5 each – what is its fully diluted equity value?

Answer 6

1. Cash generated from options = $50
2. Shares bought using options = 5
3. Total number of shares outstanding = 5+100=105
4. Outstanding equity value = 105*10=1050

Question 7

Let’s say a company has 100 shares outstanding, at a share price of $10 each. It also has 10 options outstanding at an exercise price of $15 each – what is its fully diluted equity value?

Answer 7

1,000, because the exercise price is greater than the share price ==> no dilutive effect. (t would not be profitable for the option holders to exercise these options)

Question 8

Why do you subtract cash in the formula for Enterprise Value? Is that always accurate?

Answer 8

The buyer would acquire the cash from the seller companies ==> pay less for the company depending on how large the cash balance is. (enterprise value is the acquisition cost)

It’s not always accurate because technically and ideally, we should subtract the excess cash (total cash - cash needed for operations = excess cash)

Question 9

Is it always accurate to add Debt to Equity Value when calculating Enterprise Value?

Answer 9

In most cases yes, because the buyer has to pay off the seller’s debt. However, in very rare cases, the buyer doesn’t need to pay off the debt of the seller.

Question 10

Why do we add Preferred Stock to get to Enterprise Value?

Answer 10

Preferred stock owners will receive dividends and have higher claims to the company’s assets than equity owners. ==> seems more like debt than common stock ==> The buyer has to pay this for the seller company

Question 10

Could a company have a negative Equity Value? What would that mean?

Answer 10

It’s not possible to have negative share price or negative number of shares outstanding

Question 11

Could a company have a negative Enterprise Value? What would that mean?

Answer 11

1. The company is on the brink of bankruptcy
2. The company (usually a financial institution like banks) has large cash balance

Question 12

How do you account for convertible bonds in the Enterprise Value formula?

Answer 12

• If the conversion price of the bonds is below the current shared price ==> counted as additional dilution and adds to the equity value
• If the conversion price of the bonds is higher than the current shared price ==> counted as debt

Question 13

A company has 1 million shares outstanding at a value of $100 per share. It also has $10 million of convertible bonds, with par value of $1,000 and a conversion price of $50. How do I calculate diluted shares outstanding?

Answer 13

because the conversion price is below the outstanding value ==> counted as additional dilution
- number of convertible bonds = 10 million / 1,000= 10,000 bonds
- shares per bonds = 1,000/50=20
- 10,000*20=200,000 new shares
- 100,000,000+200,000=120,000,000 shares outstanding

Question 14

What’s the difference between Equity Value and Shareholders’ Equity?

Answer 14

• Equity value is the market value, while S/E is the book value.
• Equity value cannot be negative, while S/E can be any number
• For healthy companies, equity value is higher than S/E