Enterprise Value (EV) is an important financial metric used daily by financial professionals. It is also a metric commonly ignored by retail investors. Therefore, it is an important metric to be familiar with for those who wish to work in the institutional investor industry and who want to outperform retail investors making decisions on imperfect knowledge.
EV can be defined as the measure of a company’s real value after adjusting for its cash holdings. The formula to calculate EV is simple:
EV = market capitalization + preferred equity value + debt value + minority interest – (cash + cash equivalents)
To demonstrate how to get EV, let’s look at Tesla (TSLA). This company currently has an enterprise value of $36.5 billion. How do we get to that number?
- Tesla’s market capitalization is $36.9 billion.
- Tesla’s preferred equity is $0.
- Tesla’s total debt is $2.7 billion.
- Tesla’s minority interest is $0.
- Tesla’s cash and cash equivalents is $3.1 billion.
Putting that all together, we get the following formula: $36.9+0+2.7+0-3.1=$36.5
Where did I get all of this information? Amazingly, it’s all available for free. The market cap is updated daily on Google Finance, Yahoo Finance, and plenty of other websites. The other financial data all comes from the Securities Exchange Commission—every public company must file this data through SEC’s EDGAR database.
Even better, this information is available not just for this quarter but for every quarter since the company went public. That means we could develop a tracking history of a company’s EV over time if we wanted to.
Now that we have TSLA’s EV, what do we do with it?
There are many ratios that use the EV to determine a company’s current value. We can compare the EV to EBITDA (EV/EBITDA), to sales (EV/Revenue), EV to assets (EV/assets), EV to cash flow (EV/FCF), and so on. Each metric is valuable for different kinds of companies at different levels of maturity. EV/FCF works well for mature large-cap firms, while EV/Revenue works well for a startup. TSLA, being pre-earnings for the most part and still in hyper growth, would probably best be analyzed by an EV/EBITDA metric.
TSLA’s EV/EBITDA is currently 440. Again, we can get EBITDA from the company’s 10-Q by getting the value of its earnings and subtracting its taxes, depreciation, and amortization costs (bringing us to $83m).
How is 440 as a number? We can compare it to Ford (F), which is at 14.4, or Apple (AAPL), which is 8.8. Or we could compare it to Amazon (AMZN) at 31 and NFLX, at 157.
The next step would be to project future EV/EBITDA for TSLA and determine whether its current price affords a buying opportunity, or if even the rosiest projections for future earnings are already priced in.
Yes, you can do this with P/E ratios, but it is much less precise. Using P/E, AAPL scores a 14.2 and F scores a 7. That means Ford is twice as cheap as Apple—but our EV/EBITDA scores show AAPL being 63% cheaper than Ford. The reason for this is obvious: Apple has much, much more cash on its balance sheet than Ford, and EV adjusts for that.
The real fun approach to EV is to compare similar companies in similar industries. For instance, doing an EV/FCF comparison of Wells Fargo (WFC), Bank of America (BAC), Citigroup (C), and Goldman Sachs (GS) uncovers some wild disparities that you don’t get from other financial metrics. That also means you can uncover great buying opportunities that most people ignore.