Implications of Equity & Enterprise Value

#1. Current Equity Value Cannot Be Negative, But Current Enterprise Value Can Be Negative

• Companies share price cannot be negative, and it cannot have a negative share count
• A company's total assets cannot have a negative value

Enterprise Value can be negative, for example: Current Enterprise Value could easily be negative.
For example, current equity value is $100 million, it has $200 million in Cash and no Debt. Enterprise Value is $(100m).

#2. Both the IMPLIED Equity Value and IMPLIED Enterprise Value Can Be Negative

You use your views of a company to calculate its Implied Equity Value and Implied Enterprise Value.

Company Value = Cash Flow / (Discount rate - Cash Flow Growth Rate)

#3. IN THEORY, Financing Events Will Not Affect Enterprise Value, But They May Affect Equity Value

• Easiest to think of it in terms of this formula: Enterprise Value = Equity Value + Debt - Cash
• Raising Debt: Won’t impact Enterprise Value; Cash and Debt both increase and offset each other.
• Repaying Debt: Won’t impact Enterprise Value; Cash and Debt both decrease and offset each other.
• Raising Equity: Won’t impact Enterprise Value; Cash and Equity Value both increase and offset each other.
• Repurchasing Shares: Won’t impact Enterprise Value; Cash and Equity Value both decrease and offset each other.
• Issuing Dividends: Won’t impact Enterprise Value; Cash and Equity Value both decrease and offset each other.

#4. IN THEORY, Only Changes to a Company’s Core Business Will Affect Enterprise Value

• Example 1: The company wins a major contract with a new customer, boosting its expected future Revenue.
• Example 2: The company’s expansion strategy into Southeast Asia succeeds more quickly than expected, boosting its expected future Revenue.
• Example 3: The company closes down an unprofitable division, boosting its margins and its expected future cash flow.
• Example 4: The company negotiates a better supplier contract, boosting its margins and its expected future cash flow.
• These changes all improve the company’s expected future cash flow.

#5. Metrics

Metrics that pair with Enterprise Value:

• Revenue
• Operating Income or EBIT
• Net Operating Profit After Taxes (NOPAT), defined as EBIT * (1 – Tax Rate)
• EBITDA
• Unlevered Free Cash Flow (UFCF) or Free Cash Flow to Firm (FCFF) – Cash flow that’s available to ALL investors

Metrics that pair with Equity Value:

• Net Income (or Net Income to Common if there are Preferred Dividends)
• Free Cash Flow (CFO – CapEx)
• Levered Free Cash Flow (CFO – CapEx – Mandatory Debt Repayments)