Enterprise Value vs. Equity Value of a Business

Summary

In this chapter by the Corporate Finance Institute, the distinction between Enterprise Value and Equity Value of a business is explained. While Enterprise Value represents the total value of a business without considering its capital structure, Equity Value is derived from the Enterprise Value by subtracting debt and adding cash. The video uses a relatable analogy of home valuation to illustrate these concepts. Key metrics for Enterprise Value exclude interests such as revenue or EBITDA, whereas Equity Value metrics include interests, like price to earnings. An understanding of these values is crucial for proper business valuation.

Highlights

• Enterprise Value includes the entire worth of the business before accounting for capital structure. 📈
• Equity Value arises from subtracting net debt from the Enterprise Value. 🔍
• It's like valuing a house: Enterprise Value is the home's total worth, Equity Value factors in the mortgage. 🏠
• Enterprise Value metrics include revenue, EBITDA - all before interest. 📈
• Equity Value metrics include price to earnings, calculated after interest. 🧐
• Understanding these values helps in comparing businesses based on their valuation metrics. 📊

Key Takeaways

• Enterprise Value is the full value of a business, excluding its capital structure. 🏢
• Equity Value is calculated by subtracting debt and adding cash to the Enterprise Value. 🧮
• Enterprise Value looks at metrics before interest, like revenue and EBITDA. 📊
• Equity Value focuses on metrics after interest, such as price to earnings. 💹
• Always differentiate between Enterprise and Equity value to assess business worth accurately. ✔️

Overview

Understanding the difference between Enterprise Value and Equity Value is crucial for anyone involved in business valuation. Enterprise Value serves as the holistic sum of what a company is worth including its operational aspects, minus concerns about how it is financed. This broad perspective helps in assessing the company’s total footprint in an economic sense.

Equity Value, on the other hand, narrows down the perspective to what stakeholders actually own after settling debts. It’s akin to understanding the true net worth from an investment point of view, where liabilities are accounted for, presenting a clearer picture to the shareholders.

The tutorial uses a relatable analogy: likening a business to a house. The Enterprise Value is the entire worth of the property—what someone might say their house is worth. Equity Value, however, is what you actually own if you were to settle outstanding mortgages. Such elucidation aids in comprehending why Enterprise Value is more commonly discussed in the context of overarching business valuation, providing a foundational understanding to confidently navigate financial assessments.

Chapters

• 00:00 - 00:30: Introduction to Enterprise Value and Equity Value In this chapter, the distinction between Enterprise Value and Equity Value is presented. Enterprise Value accounts for the entire value of the business, disregarding its capital structure, and includes both the equity value and the net debt of the business. Equity Value, on the other hand, is derived from the Enterprise Value.
• 00:30 - 01:00: Calculating Enterprise Value and Equity Value The chapter explains how to calculate Enterprise Value and Equity Value, comparing it to the value of a house. Enterprise Value is calculated by taking the equity value, subtracting cash, and adding debt. The example given is when describing the value of a home, which would be considered the Enterprise Value.
• 01:00 - 01:30: Example: The Value of a House The chapter discusses the concept of Enterprise Value in business valuation, using a house as a metaphor. It compares the value of a house with its mortgage, explaining that while the equity is important, people are more interested in the overall value of the house. This is likened to how business valuations focus on the Enterprise Value rather than individual components like equity.
• 01:30 - 02:00: Business Valuation: Importance of Enterprise Value This chapter discusses the concept of enterprise value in business valuation. It highlights the importance of enterprise value as it focuses on the entire business valuation rather than capital structure. The chapter notes that enterprise value comparisons are made with metrics such as revenue, sales, EBITDA, and EBIT, all of which are considered before interest on the income statement. This approach emphasizes the exclusion of debt considerations from the balance sheet, which is why only pre-interest income statement figures are used for comparison.
• 02:00 - 02:30: Comparing Metrics: Enterprise Value and Equity Value This chapter focuses on comparing two types of financial metrics: Enterprise Value and Equity Value. It explains that Equity Value metrics include price to earnings, price to book value, and price to cash flow. These metrics are characterized by being calculated after interest expenses are subtracted, meaning they represent the value remaining for equity holders. The chapter aims to clarify the distinction between these two sets of metrics by highlighting their different considerations and implications for investors.
• 02:30 - 03:00: Equity Value Metrics and Conclusion The chapter discusses the concepts of Enterprise Value and Equity Value, emphasizing the importance of distinguishing between the two and understanding their applications in financial analysis.

Enterprise Value vs. Equity Value of a Business Transcription

• 00:00 - 00:30 Enterprise Value versus Equity value in this short chapter I'm going to 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 it consists of both the equity value and the net debt of the business so the equity value is calculated by taking the Enterprise
• 00:30 - 01:00 Value and deducting the debt and adding the cash the Enterprise Value is calculated by taking the equity value subtracting the cash and adding the debt the simplest example of this that I can give is with a house if you were to describe to someone your home and the value of your home you would be talking about the Enterprise value of that house you would say my home is worth a million dollar that's
• 01:00 - 01:30 the Enterprise Value now let's suppose you have a $500,000 mortgage on the home and therefore you have $500,000 of equity that's the other side of this diagram it would be very unusual to walk up to someone and tell them that the value of your home is $500,000 of equity people don't typically care about the size of your mortgage versus the equity they just want to know what the whole home is worth that's why in business valuation we typically talk about Enterprise Value more commonly as it
• 01:30 - 02:00 strips out the capital structure and just looks at the value of the whole business so on the Enterprise Value side of this equation we compare the Enterprise Value to things like revenue or sales eida and ebit notice that these three metrics are all before interest on the income statement that's because this does not give consideration to any debt on the balance sheet so these items must be before interest on the income statement
• 02:00 - 02:30 on the other side of this equation we have Equity value metrics like price to earnings Price to Book value and price to cash flow notice that these three metrics are all after interest so earnings Book value which is an equity value metric and then cash flow earnings and cash flow are both after interest expense and therefore the remaining value is available to equity holders hopefully this gives you a clear understanding of the difference between
• 02:30 - 03:00 Enterprise Value and Equity value and it's important to always know the difference between the two and which one we're talking about