Enterprise Value

What is Market Capitalization and why is it important?

• Market capitalization = shares outstanding * stock price.
• It measures the total equity valuation (value to the equity holders) of a company.
• Remember, stock prices don’t mean much – a company can split or reverse split. The market capitalization is a more accurate reflection of company value than the stock price. 

What is Total Enterprise Value (TEV) and why is it important?

• The abbreviated formula: Enterprise value = market capitalization + debt – cash
• A more detailed valuation bridge may include: Enterprise value = market capitalization + debt, preferred equity, noncontrolling interests, and appropriate debt-like adjustments – cash (and other excess assets including short-term securities and other excess assets not needed to run the business)
• Enterprise value estimates the value of operating assets available to capital providers, rather than just common shareholders.
• It is the theoretical total price an acquirer would have to pay to buy the company and settle all the claims against it (using the cash to reduce the purchase price).
• We treat other claims against the business, like preferred stock, minority interests and underfunded pension liabilities, as debt
• We treat excess assets, like investments unrelated to the business operation as cash.
• We don’t double count assets – either the asset generates cash and the value is in the cash flow, or the asset isn’t used in the business and is assumed to be sold for cash and added to the cash balance (even if it isn't ultimately sold).

What share count should I use?

Market capitalization commonly uses the current share price and current common shares outstanding. A per-share valuation should also consider potential dilution from options, restricted stock units, and other awards or convertible securities. Treatment depends on the instrument and valuation method; unvested awards should not simply be ignored.

Keep the share count and any separate valuation adjustments consistent so the same claim is not counted twice.

What is the Treasury Stock Method?

• Method for accounting for the unexercised, outstanding stock options
• This method increases the share count (diluted shares outstanding)
• Add the total options outstanding that are in-the-money
• Assume the company receives cash from the exercise of those options (strike price * the number of options)
• Reduce the share count by assuming the company uses that cash to buy shares at the current market price