EQUITY VALUE/ENTERPRISE VALUE Flashcards
Company issues $100 common stock & does nothing w/ it - what happens to EqV & TEV?
EqV: Increases by $100 (CSE increased by $100)
TEV: No change (the proceeds go to cash, which is non-operating & no operating liabilities change)
Co issues $100 common stock & uses proceeds to issue $50 of dividends
EqV: Increases by $50 (CSE changes by $50)
TEV: No change (the proceeds go to cash –> dividends come out of cash –> cash is non-operating)
Co issues $100 of Common Stock to fund a $100 Acquisition
EqV: Increases by $100 (CSE changes by $100)
TEV: Increases by $100 (Acquired assets were operational: increased by $100; no change to operating liabilities)
Co issues $100 of Debt and Does Nothing w/ the Proceeds
EqV: No change (Debt issuance does not affect CSE)
TEV: No change (Changes = Cash increases by $100 - where the proceeds go & Debt increases by $100; neither of these are operating As or Ls)
Co issues $100 of Debt to Fund $100 Common stock Repurchase
Eqv: Decreases by $100 (Common stock repurchase decreases CSE by $100)
TEV: No change (Changes to Cash, Debt, Equity –> nothing that changes here is an operating A or L)
Co issues $100 of Debt to Purchase $100 of Financial Instruments
EqV: no change
TEV: no change (changes to cash, debt, financial investments –> nothing that changes is an operating A or L)
Co issues $100 of Preferred Stock to Fund a $100 Common Stock Repurchase
EqV: Decreases by $100 (stock repurchase reduces CSE by $100)
TEV: no change (changes to cash, preferred stock, CSE –> no changes to operating A or L)
CapEx Increases by $100, Boosting Net PPE
EqV: No change (cash used to buy PPE –> no change in CSE).
TEV: Increases by $100. (Net PPE increases by 100 –> is a NOA; no NOLs change.)
Inventory Increases by $100
EqV: No change (cash used to buy inventory –> no change in CSE)
TEV: increases by $100 (inventory increases by $100 –> is a NOA; no NOLs change)
Inventory increases by $100. Co then sells $100 of Inv for $200 of finished Goods.
Eqv: Increases by $75 (Net income increases by $75, assuming 25% tax rate –> CSE increases by $75)
TEV: No change. (THE NET change to Inv (NOA) here is $0 b/c increased by $100, then sold & decreased by $100. Other changes = cash & CSE increased by $75 –> Non operating)
Deferred Revenue Increases by $100
EqV: No change. (DR not on IS b/c has not been recognized as revenue yet –> no change to Net Income –> no change to CSE; nothing else affects CSE either)
TEV: Increases by $100. (DR = Operating Liability; cash also increases, but that is not an operating asset
CEO picks up $100 on the Street
EqV: Increases by $75 (Net Income increases by $75 –> CSE increases by $75).
*recorded as a $100 Extraordinary Gain on the IS
TEV: No change (Cash & CSE increases –> non operating asset/liability)
*intuition: finding a non-operating asset on the st does not make a co’s core biz more valuable
Co records $100 Goodwill Impairment
EqV: Decreases by $75. (Net Income decreases by $75. –> CSE decreases by $75).
TEV: Decreases by $100 (Goodwill is an operating Asset –> falls by $100; no change in Operating Ls)
Preferred Dividends Increase by $10
EqV: Decreases by $10. (Preferred dividends taken out of CSE)
TEV: No change (cash & CSE changes –> non-operating)
Why does Concept of Enterprise Value being “capital structure-neutral” (not affected by financing changes) not hold up in real life?
- Concept of TEV: Not affected by financing changes; only affected by changes to operating assets/liabilities.
- Implied Enterprise Value (“Company Value”) = Unlevered FCF / (WACC - Unlevered FCF Growth Rate)
==> But, as a co raises additional debt/equity, repays debt, or repurchases stock –> it’s WACC changes:
1) %’s of cost of E&D changes -> so WACC Changes
2) Cost changes: At diff levels of Debt and Equity, the costs of those debt/equity also change.
==> More accurate: TEV is LESS affected by capital structure than Equity Value.
Formula for Implied Enterprise Value
Unlevered FCF / (WACC - Unlevered FCF Growth rate) = Implied TEV
What happens to cost of debt & equity as levels of Debt in a co rise?
1) As a Co takes on more Debt –> Cost of Debt rises b/c Co becomes riskier and riskier for new lenders
2) As Co takes on more Debt –> Cost of Equity rises too b/c Co becomes riskier for common SHs
What are Equity Investments? How are they dealt w/ in EqV to TEV “bridge”?
Assets; Represent a co’s MINORITY STAKE in another company –> financial statements are NOT consolidated
To get from EqV to TEV: SUBTRACT Equity Investments
Logic: 2 reasons –
1) Equity = non-operating asset –> not in TEV
2) Comparability: EqV already implicitly reflects the % of minority stake. BUT: b/c the financial statements are not consolidated –> the financial metric denom for multiple (EBIT, EBITA) reflects 0% of the stake. Easier to just subtract it from the EqV. ==> This way numerator/denominator are consistent
What are Noncontrolling Interests? How are dealt w/ in the EqV to TEV “bridge”?
Line item w/in Equity; Represents what a co DOES NOT OWN when it owns a MAJORITY (but less than 100%) stake of another co –> financial statements ARE consolidated
To get from EqV to TEV: ADD Noncontrolling Interests
Logic: 2 reasons –
1) Non-Controlling Interest = represents another investor group (other than common SH) –> add to TEV
2) Comparability: the financial statements are consolidated –> financial metric denom for multiple (EBIT, EBITA) reflects 100% of of the stake. So, have to add Noncontrolling Interest to reflect same % of the subsidiary co reflected in the multiple (100%). ==> This way numerator/denominator are consistent
In summary: why do we adjust Equity Investments and Noncontrolling Interests?
Ensure consistency in numerators and denominators of valuation multiples
Equity Value - what does it MEAN?
- value of EVERYTHING a co has (Net Assets) to only EQUITY investors (common SHs)
- Net Assets = Total Assets - Total Ls
==
*Intuition: equity linked w/ Net Assets b/c equity can be generated both internally & externally -> can use for BOTH operating & non-operating assets
Enterprise Value - what does it MEAN?
- value of a co’s CORE BUSINESS OPERATIONS (Net OPERATING Assets) to ALL investors (Equity, Debt, Preferred SHs, potentially others)
- Net Operating Assets = Operating Assets - Operating Ls
- formula: TEV = EqV + Debt + Pref Stock + Min Interest - Cash
==
*Intuition: TEV linked w/ operating assets b/c debt, preferred debt can only be raised externally -> unlikely to use it for assets not related to core biz
Why use both Equity Value & Enterprise Value?
Use both bc:
1) diff valuation methodologies may produce diff values: either implied eqv or implied tev. Need to be able to move between these diff values with a “bridge”
2) actions taken by one investor group affects everyone else
How do capital changes (co’s % of Eq vs. Debt allocation) affect EqV & TEV?
EqV: changes -> b/c: EqV depends on capital structure
TEV: will not change as much ->
Advantages of using TEV & TEV based multiples?
- don’t have to worry about co’s capital structures –> will not change (as much) as capital structure changes
How can a co generate equity internally? raise equity externally?
internal: from its Net Income –> flows into RE in CSE
external: from its outside investors, by issuing stock
Implied Value vs. Current (“Market”) Value? Why might they differ?
Implied (“Intrinsic”) Value - what SHOULD the co be worth according to your analysis & views?
Current Value - what is the co worth RIGHT NOW according to the market, its current owners, or current investors?
- may differ bc of disagreements re: co’s growth rate (future growth), discount rates, CFs; but most valuation differences is bc of disagreements about future growth rates
Current Equity Value - how to calculate?
3 methods:
1) (Public Cos) Shares Outstanding * Current Share Price
2) MV of Total Assets - MV of Total Ls
3) (Private Cos) Valuation in last round of funding or in an an outside appraisal
*method 2 = v time consuming! so, usually stick w/ 1 if public co, and 3 if private co
Current Enterprise Value - how to calculate for public cos?
1) Start w/ calculating Current Equity Value
2) TEV “Bridge” it to move to Current TEV: SUBTRACT non-operating assets & ADD L&E items that represent other investor groups
Non-Operating Assets - what is it? examples?
Co does not need the asset to sell products/deliver them to customers
Examples:
- cash
- financial investments (stocks, bonds)
- rental properties (owned properties from which co earns rental income)
- side businesses (that earn income for the co)
- assets held for sale and assets associated w/ discontinued operations
- equity investments or associate cos (minority stakes in other cos)
- net operating losses (a component of the deferred tax asset)
–
*SUBTRACTED in TEV bridge
Liability & Equity items that represent other investor groups - examples?
- debt
- preferred stock
- capital leases
- non-controlling interests
- unfunded pensions
- (potentially) operating leases: under IFRA, normally add them in the bridge; but under GAAP - could go other way as long as you’re consistent w/ the valuation multiples
–
*ADDED in TEV bridge
Noncontrolling Interests - what is it?
- represents portion of a co, that this co owns a majority of, that is not owned by you
- counted as “other investor group”
*intuition: if you own majority of a co -> have effective control
Capital Leases - what is it?
- Debt-like obligations
- w/ interest payments
- used to acq PP&E
–
*ADDED in TEV bridge
Unfunded Pensions - what is it
Portion of the pension where pension Ls exceed pension assets (in cases where a co has a defined-benefit pension)
- defined-benefit pension = co is required to pay retired employees a fixed amount each year
-> if co has a defined-benefit pension –> will have Pension Assets & Pension liabilities - Pension Assets = investments set aside for those retirement payment
- Pension Ls = PV of expected future obligations
==> IF Pension Ls > Pension Assets –> pension is UNFUNDED
–
*ADDED in TEV bridge - only the unfunded portion
- intuition: employees = “another investor group” here - exchanged lower salaries/benefits presently for future promised payments in retirement
- similar to debt, but over much longer time frame
Operating Leases - treatment in TEV bridge?
IFRS: normally added - b/c of how lease expense is represented on the IS
US GAAP: could go either way as long as you’re consistent w/ the valuation multiples
Private companies - how to calculate current TEV & current EqV?
- Current EqV: look at external sources - most recent valuation when co raised money, price acquired at, etc
*b/c: no publicly traded shares ==> can’t use current share price * shares outstanding - Current TEV: no straight-forward way to calculate
–> In practice: often skip current EqV & TEV calculations for private cos & just est IMPLIED values
==> bankers advising private co’s: may skip comparison b/t co current vs. implied values & just tell client IMPLIED value - what you think it should be worth
CURRENT EqV & TEV - can they be negative?
Current EqV: never;
- for public cos: can’t have negative share count nor negative share price
- for private cos: also can’t be negative
Current TEV: yes, but rare.
- co that has cash that exceeds it current Eqv & no debt
-ex: pre-bankruptcy co’s burning through cash at high rates & likely to die soon
IMPLIED EqV & TEV - can they be negative?
- theoretically yes:
–> unlike CURRENT EqV, implied EqV is calculated based on your own views & assumptions. can back into it from a negative or $0 implied TEV (ex: if a co has more debt than cash) - but IRL: v unlikely - UNLESS: distressed or highly speculative co’s (ex: tech, biotech startup)
Enterprise Value - when does it change?
- changes ONLY when net operating assets (core biz operations) change
–> both NOA & TEV change by same amount - financing event? -> NO EFFECT
ex: paying Dividends? -> changes (reduces) Cash & CSE ==> neither are operating assets or liabilities
ex: debt issuance? -> changes (increases) Cash & Debt ==> neither are operating assets or liabilities
Equity Value - when does it change?
- changes ONLY if CSE changes
–> both CSE & EqV change by same amount
Financing Events - examples
- issuing debt
- repaying debt
- issuing debt
- repurchasing shares
- issuing dividends
Operating Assets (and Liabilities) - examples
- PP&E
- inventory
- accounts receivable
- deferred revenue (liability)
