Differences between enterprise value (firm value) and equity value
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In this guide, we outline the difference between the enterprise value of a business and the equity value of a business. Simply put, the enterprise value is the entire value of the business, without giving consideration to its capital structure, and equity value is the total value of a business that is attributable to the shareholders. Learn all about Enterprise Value vs Equity Value.
To learn more, watch our video explanation below:
The enterprise value (which can also be called firm value or asset value) is the total value of the assets of the business (excluding cash).
When you value a business using unlevered free cash flow in a DCF model, you are calculating the firm’s enterprise value.
If you already know the firm’s equity value, as well as its total debt and cash balances, you can use them to calculate enterprise value.
Enterprise value formula
If equity, debt, and cash are known, then you can calculate enterprise value as follows:
EV = (share price x # of shares) + total debt – cash
Calculate the Net Present Value of all Free Cash Flow to the Firm (FCFF) in a DCF Model to arrive at Enterprise Value.
The equity value (or net asset value) is the value that remains for the shareholders after any debts have been paid off. When you value a company using levered free cash flow in a DCF model, you are determining the company’s equity value. If you know the enterprise value and have the total amount of debt and cash at the firm, you can calculate the equity value as shown below.
Equity value formula
If enterprise value, debt, and cash are all known, then you can calculate equity value as follows:
Equity value = Enterprise Value – total debt + cash
Equity value = # of shares x share price
Use in valuation
Enterprise value is more commonly used in valuation techniques as it makes companies more comparable by removing their capital structure from the equation.
In investment banking, for example, it’s much more common to value the entire business (enterprise value) when advising a client on an M&A process.
In equity research, by contrast, it’s more common to focus on the equity value since research analysts are advising investors on buying individual shares, not the entire business.
In the illustration below, you will see an example of enterprise value vs equity value. We take two companies that have the same asset value and show what happens to their equity value as we change their capital structures.
As shown above, if two companies have the same enterprise value (asset value, net of cash), they do not necessarily have the same equity value. Firm #2 financed its assets mostly with debt and, therefore, has a much smaller equity value.
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Financial modeling applications
When building financial models, it’s important to know the differences between levered and unlevered free cash flow (or Free Cash Flow to the Firm vs. Free Cash Flow to Equity), and whether you are deriving the equity value of a firm or the enterprise value of a firm.
One of the easiest ways to explain enterprise value versus equity value is with the analogy of a house. The value of the property plus the house is the enterprise value. The value after deducting your mortgage is the equity value.
Imagine the following example:
Value of house (building): $500,000
Value of property (land): $1,000,000
Box of cash in the basement: $50,000
What is the enterprise value?
$1,500,0000. (Value of house plus value of property equals the enterprise value)
What is the equity value?
$800,000. (Value of the house, plus value of the property, plus value of the cash, less the value of the mortgage)
Here is an illustration of the house example with some different numbers. Each of the three houses below has a different financing structure, yet the value of the assets (the enterprise) remains the same.
We hope this article has been a helpful guide on enterprise value versus equity value. To learn more, please check out our free introduction to corporate finance course for a video-based explanation of enterprise value versus equity value.
To advance your career, additional resources that you may find helpful include:
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