Enterprise Value is the total value of a company. It can also be called as the ‘total firm value’.
Enterprise Value is considered to be better than Market Capitalization because it takes into account a company’s debt and cash.
Enterprise Value Formula
To calculate the Enterprise Value of a listed company on the stock market – the formula is simple:
The current market capitalization of a company, plus debt, minus cash.
Let’s understand each term:
- Market Cap: Total Number of Shares multiplied by Current Stock Price is the market cap. It’s the current market value of shares of the company.
- Debt: Short Term and Long Term Loans are added together to get the total loan the company has to pay.
- Cash: Is the ‘Cash and Cash Equivalents’ on the balance sheet. It’s the cash reserves that a company has.
Let’s make it extremely simple.
Enterprise Value Example
You own a company with a market cap of 100 crore. You have taken debt (loan) of 10 crore, which you have to pay to the bank. You also have cash worth 5 crore deposited in your bank account.
Now, a friend of yours wants to buy the company. He wants to know the ‘Enterprise Value’.
How would you calculate it?
Enterprise Value = 100 crore (Market Cap) + 10 crore (Debt) – 5 crore (Cash) = 105 crore.
You might ask, why is the debt added and cash deducted.
The answer is simple. Let’s assume your friend buys your company. He has taken over your entire company. Which also means, he has to pay the 10 crore loan which you have taken from the bank. However, he also gets the cash reserves of 5 crore, which your business has earned.
So, while the 10 crore loan gets added to his cost, the cash gets deducted.
Enterprise Value Calculation
Let us take a real example of a listed company in the stock market to calculate the enterprise value.
To keep the example simple, we have taken the example of a company called ‘CDSL’ which is one of the two major depositories in India.
The company is listed on the National Stock Exchange (NSE).
- Market Cap of CDSL (as on July 7 2020): 2961 crore
- Debt: 0
- Cash and Cash Equivalents: 54 crore
As you can see from the list above, CDSL is a debt-free company. The company has 54 crore in cash.
So what’s the Enterprise Value of CDSL? Do the calculation yourself before scrolling below.
2961 + 0 – 54 = 2907 crore is the Enterprise value of CDSL.
Ratios using Enterprise Value
Several important financial ratios can be calculated using the Enterprise Value (EV).
Some of them are:
- EV / EBITDA: This is the Enterprise Value to Earnings Before Interest, Taxes, Depreciation and Amortization.
- EV / EBIT: This is Enterprise Value to Earnings before Interest and Taxes.
- EV / Sales: It’s the Enterprise Value to Sales ratio.
- EV / Free Cash Flow: Another important ratio, which uses Free Cash Flow instead of earnings and gives a comparison figure.
If some of the words sound complicated, do not worry about it at the moment. Those are simple ratios which are used to compare one company to another.
More on all those ratios in separate articles.
For now, if you have any questions on Enterprise Value, post them in the comments section below.