Equity Value Reading Flashcards
Enterprise Value Definition
The value of a company’s core business operations
to ALL the investors in the company
Market Value vs Intrinsic Value of a Company
Market Value - What is it worth right now? (Share price x shares outstanding)
Intrinsic Value - What should it be worth according to your views
Equity Value Definition (What is it on balance sheet?)
EVERYTHING a company has (i.e., ALL its Assets), but only to EQUITY INVESTORS (i.e., common shareholders)
All assets + Common shareholders side of equity portion of B/S
Enterprise Value
The value of the company’s CORE BUSINESS OPERATIONS (i.e., ONLY the Assets related to its core business), but to ALL INVESTORS (Equity, Debt, Preferred, and possibly others).
How to calculate equity value of publicly traded company?
Shares outstanding x share price
Move from Equity Value to Enterprise Value (Assets)
Equity Value: Core-business assets + non-core business assets
Enterprise Value: Core-business assets
Equity Value to Enterprise Value (Investors)
Equity Value only value to equity investors
Enterprise Value: Value to equity investors + Value to debt investors + Value to preferred investors
Move from Equity Value to Enterprise Value on Balance Sheet
Subtract non-core business assets (cash and investments), add debt liability, add preferred stock, add non controlling interests
Non core business assets
What you need to sell goods to a customer.
Cash and investments
Calculate Equity Value on Balance Sheet
All Assets + Common Stock Equity Portion
How can enterprise value be negative?
Equity value of $100 and cash of $200, and no debt and preferred stock - Strip away non core assets (cash)
What are you trying to calculate when looking for cash flow to all investors?
Enterprise value - Use WACC
If a company with an Equity Value of $1,000 and Enterprise Value of $1,200 issues $100 of
Stock, what happens to both metrics?
So, the company now has $100 in extra Assets, and those extra Assets were funded by Equity investors. As a result, Equity Value increases by $100.
Equity Value is $100 higher, but you subtract the extra $100 of Cash. There are no new, other investor groups to add. The changes cancel each other out, and Enterprise Value stays the same.
Move from Enterprise Value to Equity Value on BS
- Add back non core business assets (Cash / Short & Long Term Investments)
- Subtract debt
- Subtract preferred stock
Metrics that pair with Enterprise value
- Revenue
-Operating Income or EBIT
-Net Operating Profit After Taxes (NOPAT), defined as EBIT * (1 – Tax Rate)
EBITDA - Unlevered Free Cash Flow (UFCF) or Free Cash Flow to Firm (FCFF) – Cash flow that’s
available to ALL investors
Metrics that pair with Equity Value
- Net Income (or Net Income to Common if there are Preferred Dividends)
- Free Cash Flow (CFO – CapEx)
- Levered Free Cash Flow (CFO – CapEx – Mandatory Debt Repayments)
Why is cash not the opposite of debt?
Because most debt doesn’t allow for early repayment
If a metric reflects dividends and interest payments (subtracted), what metric should it be paired up with
Equity Value
Equity value does not include…
Debt and preferred stock
What income measurement should you look at when measuring equity value?
Net income to common stock
Why pair equity value with net income to common?
Equity Value does not include Debt or Preferred Stock, and Net Income to Common includes Interest Expense and Preferred Div
Which year FCF should you look at when valuing a company using multiples?
Year 2 because we’re currently in year 1 and you want to look forward.
What can you say about two similar companies trading at different multiples?
(END KEY RULE 3)
The company with the higher multiple has the higher expected cash flow growth rate.
When cash flow is available to all investors, what discount rate should you use?
WACC
Why does enterprise value have to change if you take out additional debt or change equity structure?
WACC changes when you change company structure.
Whats cheaper? Debt or Equity?
(END KEY RULE 4)
Debt - Thats why WACC decreases when you increase leverage up to a certain point.
What effect does issuing dividends have on the B/S?
(END KEY RULE 5)
Reduces retained earnings under equity section, thus lowering equity value
Why do company’s use stock compensation? Downside of using stock compensation?
(END KEY RULE 6)
Reduces up front cash
Can dilute shares, thus lowering share price.
How to move from equity value to enterprise value
you subtract non-core-business Assets, and you add items that represent other investor groups.
Move from Enterprise to Equity Value
You add non-core-business Assets, and you subtract items that represent other investor groups.
3 Key rules to deciding what to add / subtract to enterprise value
Rule of Thumb #1: Add Long-Term Funding Sources When Moving from Equity Value to Enterprise Value (Debt, preferred Stock, underfunded pension plans, capital leases)
Rule of Thumb #2: Add Items That Will Cost a Potential Acquirer Extra When Moving from Equity Value to Enterprise Value (debt or preferred stock that has to be repaid if new ownership takes control)
Rule of Thumb #3: Subtract Items That Are NOT Operating Assets When Moving from Equity Value to Enterprise Value (Could a company not continue to function without a specific asset, or does this specific asset generate revenue.)
Pick which items to subtract when moving from equity to enterprise value:
PICK WHICH ITEMS TO ADD WHEN GOING FROM EQUITY VALUE TO ENTERPRISE VALUE
Equity Investments on B/S Definition
(END KEY RULE 7)
which are Assets that represent a company’s stake in another company when it owns less than 50% of that company.
How to calculate EBIT?
Operating Income on Income Statement
Noncontrolling Interests Definition
they’re Liability & Equity line items that are used when a company owns more than 50% but less than 100% of another company
But be careful – the Noncontrolling Interest itself represent the portion the Parent Company does NOT own in the other company.
How to calculate EBITDA
Operating Income on the Income Statement + Depreciation & Amortization (from the CFS).
How to calculate Net Income on income statement
Net Incom to common
Decide whether each applies to Enterprise / Equity Value:
EBIT
EBITDA
Net Income
Ebit - Enterprise
EBITDA - Enterprise
Net Income - Equity
What does each metric mean?
EBIT
EBITDA
Net Income
EBIT = Core, recurring business profitability, before the impact of capital structure and taxes.
EBITDA = Proxy for core, recurring business cash flow from operations, before the impact of capital structure and taxes.
Net Income = Profit after taxes, the impact of capital structure (interest), AND non-core business activities.
Advantage of EBIT over EBITDA
(End key rule 8)
EBIT reflects effects of CapEx spenditures
How to calculate Free Cash Flow
Take free cash flow from operations and subtract by capex.
What are you looking for when looking for cash flow available to the firm
Unlevered free cash flow
Who does levered free cash flow give cash to?
Just equity investors
Free cash flow formula
Cash Flow from Operations – CapEx.
Ulevered Free Cash Flow formula
Unlevered Free Cash Flow: NOPAT + Non-Cash Adjustments and Changes in Working
Levered Free Cash Flow formula
End Key Rule 9
Levered Free Cash Flow: Net Income + Non-Cash Adjustments and Changes in Working Capital from CFS – CapEx – (Mandatory?) Debt Repayments.
