Enterprise value (EV) is a metric for a company’s entire worth that is sometimes used as a more complete alternative to market capitalization. EV takes into account not only a company’s market capitalization but also its short- and long-term debt, as well as any cash on its balance sheet. A prominent metric for evaluating a firm for a possible acquisition is enterprise value.
EV = Market Capitalization + Total Debt – Cash
The EV/EBITDA indicator is a valuation tool that compares a company’s whole worth, including debt, to its cash profits less non-cash costs. Analysts and investors looking to compare firms in the same sector will find it useful. The ratio may be more important than the P/E ratio when comparing companies with different levels of debt.
The lower the EV/sales multiple, the more appealing or cheap a firm is seen to be.
Because it accounts for the market capitalization and quantity of debt a firm must repay at some point, EV/sales is considered a more accurate indicator than the price/sales ratio.
Consider yourself as a private investor who wants to buy a 100% stake in a publicly listed corporation. When you’re arranging your purchase, keep in mind that the company’s market capitalization is $80 million, which means you’ll need $80 million to buy all of the company’s current shares. But what if the corporation has a cash reserve of $20 million? In that case, the true “cost” of buying the firm would be merely $60 million, because you’d get access to the company’s $20 million in cash as soon as you bought it. A larger cash balance leads to a lower enterprise value, and vice versa, if all other factors are equal.
We provided a very detailed article on Enterprise Value here, all advantages and disadvantages of using it, as we consider it as a key investing term, which represent a crucial knowledge in the investing world.
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