2. Equity Value and Enterprise Value Questions

Basic Concepts

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1. Why do we look at both Enterprise Value and Equity Value?

• Enterprise value shows the value to all investors/the entire firm

• Equity value shows the value for equity investors

• Equity value is the number the public sees, while enterprise value is more true to what it would cost to acquire the firm

2. How do you use Equity Value and Enterprise Value differently?

• Equity Value gives you a general idea of how much a company is worth; Enterprise Value tells you, more specifically, how much it would cost to acquire.

• Use them differently depending on the valuation multiple you are using

  • If the denominator of the multiple includes interest expense and income, like net income, you use equity value

  • If the denominator of the multiple excludes interest expense and income (EBITDA or EBIT), you use EV

3. What’s the formula for Enterprise Value?

• Equity Value (market cap) + Net Debt (+ Debt, + Preferred Stock, + Noncontrolling Interest, - Cash and equivalents)

• In-depth: Equity Value (market cap) + Debt + Convertible Bonds + Preferred Stock + Noncontrolling Interests + Unfunded Pension Obligations + Capital Leases + Restructuring / Environmental Liabilities – Cash & Cash-Equivalents - Short-Term/Long-Term/Equity Investments - Net Operating Losses (NOLs)

4. Why do you need to add Noncontrolling Interests to Enterprise Value?

• For comparability purposes

• If a company owns more than 50% of a company but less than 100%, it is required to recognize 100% of the revenue

• Equity value doesn’t do this; it only recognizes the percent you actually own

• Need to add it to get to EV so that numerator and denominator of EV multiples both reflect the 100%

5. How do you calculate diluted shares and Diluted Equity Value?

• Take the basic share count and add in the dilutive effect of any stock options or dilutive securities

• Represents the true amount of stock a company could/will theoretically have

6. Why do we bother calculating share dilution? Does it even make much of a difference?

• We calculate dilution for the same reason we calculate Enterprise Value: to more accurately determine the real cost of acquiring a company.

• In an acquisition, any in-the-money dilutive securities must be settled — either cashed out by the buyer or converted into equivalent buyer securities — which effectively increases the purchase price. 

7. Why do you subtract Cash in the formula for Enterprise Value? Is that always accurate?

• In an acquisition, the buyer “gets” the seller’s cash, so a higher cash balance reduces the effective purchase price. Since Enterprise Value measures how much you effectively have to pay to acquire a company, we subtract cash in the EV formula.

• In theory you should subtract only excess cash, but minimum cash needs are hard to estimate and differ by company — so for consistency, analysts simply subtract the entire cash balance in practice.

8. Is it always accurate to add Debt to Equity Value when calculating Enterprise Value?

In most cases, yes. You add debt to equity value because an acquirer effectively has to repay the target’s debt, so it increases the true purchase price. Adding debt also standardizes valuation, ensuring Enterprise Value is comparable across companies regardless of capital structure.

9. Could a company have a negative Enterprise Value? What does that mean?

• Yes

  • Company has extremely large cash balance

  • Low market cap

  • Both

• Could be near bankruptcy, but sometimes just large cash

10. Could a company have a negative Equity Value? What would that mean?

• No, can’t have negative share price or count

11. Why do we add Preferred Stock to get to Enterprise Value?

• Preferred Stock pays a fixed dividend and gives investors a higher claim on assets than common shareholders, so it behaves more like Debt than Equity. 

• And just like Debt, Preferred Stock usually must be repaid in an acquisition, which is why it’s added when calculating Enterprise Value.

12. How do you factor in Convertible Bonds into the Enterprise Value

Calculation?

• If convertible bonds are in-the-money (conversion price < current share price), you treat them as dilutive and add all the new shares they would create — no Treasury Stock Method needed.

• If they are out-of-the-money, you treat them as Debt, and include their face value in the company’s Debt balance instead of counting any extra shares.

13. What’s the difference between Equity Value and Shareholders’ Equity?

• Equity value is market value, and SE is book value

• EQ can never be negative, SE could be

• Healthy companies usually have a much higher EQ than SE

14. Should you use Enterprise Value or Equity Value with Net Income when calculating valuation multiples?

EQ because NI includes interest income and expense

15. Why do you use Enterprise Value for Unlevered Free Cash Flow multiples, but Equity Value for Levered Free Cash Flow multiples? Don’t they both just measure cash flow?

• Unlevered Free Cash Flow excludes interest income, interest expense, and mandatory debt repayments — it represents cash flow before debt, so it belongs to all investors.

• Levered Free Cash Flow includes interest and debt repayments and it represents cash flow after debt, so it belongs only to equity holders.

• Because of this, Enterprise Value pairs with Unlevered FCF, and Equity Value pairs with Levered FCF.

16. Let’s say we create a brand-new operating metric for a company that approximates its cash flow. Should we use Enterprise Value or Equity Value in the numerator when creating a valuation multiple based on this metric?

• If it has interest → EQ

• No interest → EV

Calculations

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1. Let’s say a company has 100 shares outstanding, at a share price of $10.00 each. It also has 10 options outstanding at an exercise price of $5.00 each – what is its Diluted Equity Value?

• Basic Equity Value = $1,000 (100 shares × $10).

• All 10 options are in-the-money, so exercising them creates 10 new shares → share count becomes 110.

• The company receives $5 per option ($50 total) and uses that cash to repurchase 5 shares at the $10 share price.

• So the fully diluted share count is 105, and the Diluted Equity Value is $1,050.

2. Let’s say a company has 100 shares outstanding, at a share price of $10 each. It also has 10 options outstanding at an exercise price of $15 each – what is its Diluted Equity Value?

• $1,000. In this case the options’ exercise price is above the current share price, so they have no dilutive effect.

3. A company has 1 million shares outstanding at a value of $100 per share. It also has $10 million of convertible bonds, with par value of $1,000 and a conversion price of $50. How do I calculate diluted shares outstanding?

• How many bonds are there (total $ in bonds / par value)?

• How many shares can you get per bond (par value / conversion price)?

• How many new shares are created (bonds x shares)?

• These convertible bonds are in-the-money because the share price ($100) is above the conversion price ($50), so we treat them as additional shares, not debt.

• First, find how many bonds exist: $10 million ÷ $1,000 par = 10,000 bonds.

• Each bond converts into par ÷ conversion price = $1,000 ÷ $50 = 20 shares per bond.

• So the convertibles create 200,000 new shares (10,000 × 20), bringing the diluted share count to 1.2 million.

4. Let’s say that a company has 10,000 shares outstanding and a current share price of $20.00. It also has 100 options outstanding at an exercise price of $10.00. It also has 50 Restricted Stock Units (RSUs) outstanding. Finally, it also has 100 convertible bonds outstanding, at a conversion price of $10.00 and par value of $100. What is its Diluted Equity Value?

• Basic share count = 10,000 at a $20 share price → basic equity value = $200,000.

• Options:

  • 100 options at a $10 exercise price → all in-the-money → 100 new shares.

  • Company receives $1,000 and can repurchase 50 shares at $20 → net +50 shares.

• RSUs:

  • 50 RSUs → treated as common shares → +50 shares.

  • Running total = +100 shares.

• Convertibles:

  • Conversion price = $10 < share price = $20 → in-the-money.

  • $100 par ÷ $10 conversion price = 10 shares per bond.

  • 100 bonds × 10 = 1,000 new shares.

• Total dilution: 50 + 50 + 1,000 = 1,100 new shares.

  • Diluted share count = 11,100.

  • Diluted Equity Value:

  • 11,100 × $20 = $222,000.

5. This same company also has Cash of $10,000, Debt of $30,000, and Noncontrolling Interests of $15,000. What is its Enterprise Value?

• You subtract the Cash, add the Debt, and then add Noncontrolling Interests:

• Enterprise Value = $222,000 – $10,000 + $30,000 + $15,000 = $257,000.

Advanced Topics

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1. Can you describe a few of the additional items that might be a part of Enterprise Value, beyond Cash, Debt, Preferred Stock, and Noncontrolling Interests, and explain whether you add or subtract each one?

• Cash-like items (subtracted from EV):

  • Net Operating Losses (NOLs): They can reduce future cash taxes, so they have economic value — though usability depends on the company and deal.

  • Short-term and long-term investments: These can theoretically be sold for cash, assuming they’re liquid.

  • Equity investments (20–50% ownership): Subtracted partly for comparability, since income from these shows up in net income but not in EBIT or EBITDA.

• Debt-like items (added to EV):

  • Capital leases: They behave like debt, with interest and required repayments.

  • Some operating leases: If they effectively function as financing, they’re capitalized and treated like debt.

  • Unfunded pension obligations: These are real, often large obligations that require future cash outflows.

  • Restructuring or environmental liabilities: Similar to pensions — long-term, unavoidable claims on the business.

2. Wait a second, why might you add back Unfunded Pension Obligations but not something like Accounts Payable? Don’t they both need to be repaid?

• Both have to be repaid, but the key differences are size and funding source. Accounts Payable is usually small and paid through normal operating cash flow. Unfunded pension obligations are often much larger and typically require external financing, like raising debt, which makes them more debt-like and appropriate to include in Enterprise Value.

3. Are there any exceptions to the rules about subtracting Equity Interests and adding Noncontrolling Interests when calculating Enterprise Value?

• Always add Noncontrolling Interests, but subtract Equity Interests only when their income is excluded from the metric

• You almost always add Noncontrolling Interests because the financials are consolidated when ownership is over 50%. Equity Interests are different — you only subtract them if the metric you’re using excludes their income.

• For metrics like Revenue, EBIT, and EBITDA, you subtract Equity Interests because their income is not included. But if you’re using a metric that already includes equity income, like certain versions of Free Cash Flow to Equity, you would not subtract them again or you’d be double-counting.

4. Should you use the Book Value or Market Value of each item when calculating Enterprise Value?

In theory, you should use market value for every component of Enterprise Value. In practice, you usually use market value only for equity, since reliable market values for debt and other items are hard to determine, so you use their book values from the balance sheet.

5. What percentage dilution in Equity Value is “too high?”

There’s no hard rule, but anything over about 10% is unusual and worth double-checking. Something like 50% dilution would be extremely rare for most companies.

6. How do you treat Convertible Preferred Stock in Enterprise Value?

You treat it like convertible debt. If it’s in-the-money, you assume it converts into shares and include the dilution. If it’s out-of-the-money, you treat it as debt and add it to Enterprise Value.

7. How do you factor in Restricted Stock Units (RSUs) and Performance Shares when calculating Diluted Equity Value?

RSUs are treated as common stock, so you add them to the share count. Performance shares are only included if they’re in-the-money — if they’re not, you ignore them; if they are, you add them to the diluted share count.

8. What’s the distinction between Options Exercisable vs. Options  Outstanding? Which one(s) should you use when calculating share dilution?

Options outstanding include all options granted, while options exercisable are the portion employees are actually allowed to exercise today. There’s no single correct choice for dilution — some people use options outstanding because non-exercisable options typically vest in an acquisition, while others use exercisable options since vesting isn’t guaranteed. The key is to be consistent across all companies you analyze

RTWS Qs

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1. A company issues $200 in new shares. How do Equity Value, EV/EBITDA, and P/E change?

• Equity Value increases by $200 because new shares are issued.

• Enterprise Value stays the same because cash also increases by $200, offsetting the equity issuance.

• EV/EBITDA stays the same, while P/E decreases because equity value rises but net income does not change.

2. Why do financing-related activities not affect Enterprise Value?

Enterprise Value reflects the value of the company’s operations. Financing activities like issuing debt or equity just change how the company is funded, not the value of the underlying business

3. You have a company with EV/Revenue of 2x and EV/EBITDA of 10x. What is the EBITDA margin?

2/1 × 1/10 = 20%

4. How does paying down $100M debt affect a company’s enterprise value?

Enterprise Value does not change. Debt goes down by $100M, but cash also goes down by $100M, so EV stays the same

5. Should you use book or market value of each item when calculating EV?

In theory, you should use market value for everything. In practice, you usually use market value for equity and book value for debt and other items because their market values are hard to observe.

6. If Company A and B are financed the same amount, but Company A is financed with 100% equity and B is financed with 50% equity and 50% debt, will their EV be the same?

Yes, assuming they have the same operating performance. Enterprise Value is capital-structure neutral, so it’s the same regardless of how the company is financed.

7. A CEO finds $100 on the ground. How does the EV and Equity Value change?

Equity Value increases by $100 because cash goes up. Enterprise Value stays the same because cash is subtracted when calculating EV.

8. A company has $80 in EBITDA and a 5x EV/EBITDA multiple. If the company has $500 in Debt and $50 in cash, what is the EV and Equity Value?

• Enterprise Value is 5 times $80, so EV is $400.

• Net debt is $450, which exceeds EV, so equity value is effectively zero in practice, indicating the company is highly distressed