Glossary · Stocks and markets
Enterprise value
Enterprise value (EV) is what it would cost to buy a whole company: the market value of its shares plus its debt, minus the cash it holds.
Also called: EV, firm value, takeover value
In plain words
You agree to pay $300,000 for a house, but you also take over its $200,000 mortgage, and the seller leaves $10,000 of cash in a drawer that is now yours. The real price of the house is $300,000 + $200,000 − $10,000 = $490,000. For companies, that real price is the enterprise value.
It starts with the market value of the shares, adds the company’s debt (which a buyer must repay or take over) and subtracts its cash (which the buyer gets). The result is the value of the business itself, however it is financed.
That makes companies with very different debts comparable. Two shops with the same profits are not worth the same to their owners if one of them owes the bank a fortune.
Example
Same market value, different businesses
- Company A: shares worth $10 billion, no debt, $2 billion of cash. EV = 10 + 0 − 2 = $8 billion.
- Company B: shares worth $10 billion, $6 billion of debt, no spare cash. EV = $16 billion.
- Both make $1 billion of operating profit before interest and taxes. EV ÷ profit: 8 for A, 16 for B.
- By market value they look identical; by enterprise value, B’s business is priced twice as high.
EV ratios compare businesses as if they had no debt and no spare cash.
One level deeper
The full formula has more parts: EV = market value of the shares + debt + preferred stock + minority interests − cash and short-term investments. Some analysts also add pension deficits and leases.
Because EV belongs to everyone who funds the company, lenders and shareholders alike, it is set against profit before interest is paid: operating profit (EBIT) or EBITDA (EBIT plus depreciation and amortization). EV/EBITDA is a favorite yardstick in takeovers and in private equity.
EV can be smaller than the market value (a cash-rich company) and, rarely, even negative, when a company holds more cash than its shares are worth: the market then values its business at less than nothing.
Why it matters
It is closer than market cap to the real price tag of a company, which is why buyers in takeovers think in EV.
It makes companies with different amounts of debt comparable, which P/E ratios do not.
It shows how much of a company’s value is owed to lenders: a modest market value can sit on top of a huge debt.
A common mistake
Myth: A company with a lot of cash is cheap because the buyer gets the cash.
In fact: Shareholders get it only if the company hands it out, or if someone buys the whole firm. EV subtracts cash to show the price of the business, but cash kept inside a company, or abroad, may never reach its owners.
Questions people ask
What is the difference between market cap and enterprise value?
Market cap is the value of the shares only. Enterprise value adds the debt and subtracts the cash: the value of the whole business, for lenders and owners together.
Why is cash subtracted from enterprise value?
A buyer of the whole company gets its cash and can use it to pay part of the price or repay debt, so the net cost of the business is lower by that amount.
What is EV/EBITDA?
Enterprise value divided by earnings before interest, taxes, depreciation and amortization. It compares the price of a business with the cash profit it makes before paying lenders and taxes, and it is widely used to compare companies and to price takeovers.
Read more on BigCapital
About the numbers
- This page explains a term. It is not investment advice.