What Is The Equation for Enterprise Value?

Enterprise Value Definition. enterprise value = equity value - net cash

The Enterprise Value of a privately held business is calculated by taking the equity value and subtracting net cash.

Enterprise Value = Equity Value – Net Cash

When Is Enterprise Value Used

Enterprise Value is commonly used in private market M&A. This is the metric that m&a advisors, business brokers, business sellers, and business buyers all have to come to an agreement on in order to proceed with a business sale.

It is uncommon when evaluating the value of publicly traded companies. A multiple of net earnings (P/E ratio) is used to arrive at the total value of the business (the market capitalization). This is considered a much better barometer of the value of publicly traded companies due to the fact that they are not being recapitalized by the purchase or sale of their shares.

Why Use Enterprise Value Instead of Equity Value?

In private market transactions, the company is being recapitalized at the time the transaction is completed. This means that whatever the company was paying for debt service (principal and interest), taxes, depreciation and amortization of their assets previously is irrelevant moving forward.

Additionally, the M&A advisor and buyers will negotiate the value of working capital that will be included in the transaction, therefore, not all of the liabilities and assets on the balance sheet will be transferred over to the new owner. It is very common for both cash and debt to be excluded from a transaction. This is termed as a company being traded on a cash-free and debt-free basis.

Because cash and debt are included in calculating the equity value of a business, but excluded in enterprise value, enterprise value is the metric used in private market transactions.

What Is Net Cash?

Net cash is the sum of all debt minus cash and cash equivalents.

This is an important metric for business buyers as it represents the cash that the acquiring company will effectively “get” as part of the deal.

How Do You Calculate Equity Value?

There are a variety of different valuation methodologies that business buyers and intermediaries such as Raincatcher will use to value a business. Most of them involve applying an agreed-upon multiple to a business performance figure, typically adjusted EBITDA.

Note that as mentioned above, equity value includes the business assets and liabilities as it sits pre-transaction. Adjusting the balance sheet for debt and cash (which aren’t included in the transaction) will get you to the company’s enterprise value. This is the value of the company at the time of sale.

How Do You Calculate EV For A Private Company?

The formula for enterprise value is the same for both public and private companies.

Investopedia has a longer article that explains enterprise value as well. Their formula is the same as the one we explained at the outset of the article. However, they used the example of a publcly traded company in their explanation and calculated equity value/market cap by summing up the number of shares outstanding.

Additionally, while we stated succinctly that enterprise value = equity value – net cash. They elaborated the formula to explain how net cash is calculated. The formulas will lead you to identical outcomes.

How You Can Increase the Value of Your Business

There are a number of different ways that you can increase the value of a private company. Below are a few of the most common ways that entrepreneurs increase their valuation.

Note that if you are making $500k+ in annual profit, you can request a consultation with us where we’ll be able to give you a few more specific ways to increase the value of your business and what buyers are looking for in your industry.

  • Scale

Entrepreneurs increase the value of their company by pursuing opportunities for growth, expanding operations, and reaching economies of scale, which can enhance profitability and market influence.

  • Hire a Strong Management Team

 Building a capable and experienced management team is essential for sustainable growth, as it not only empowers the business with diverse expertise but also instills confidence in investors and potential acquirers.

  • Get Themselves Out of the Operation

Entrepreneurs can boost company value by strategically delegating operational responsibilities, freeing up time to focus on strategic planning, innovation, and high-level decision-making, which can drive long-term success.

  • Ensure Contracts Are Assignable

 By structuring contracts to be easily transferable or assignable, entrepreneurs create flexibility for potential buyers or investors, removing barriers and making the business more attractive in the eyes of acquirers.

  • Increase Wallet Share of Customers

 Growing the share of a customer’s overall spending within a company, known as wallet share, is a strategy that boosts revenue and demonstrates the business’s ability to deliver value, thereby increasing its overall market worth.

  • Create High Customer Lifetime Value (CLTV)

Building products or services that foster long-term customer relationships and loyalty increases the Customer Lifetime Value (CLTV), a key metric that enhances the company’s attractiveness to investors and potential acquirers.

  • Cultivate Recurring Customers and Clients 

Establishing a recurring revenue model through subscriptions, contracts, or ongoing services ensures a steady and predictable income stream, making the company more resilient and appealing to investors seeking sustainable business models.