Enterprise Value = MV of debt + MV equity + MV of preferred - Cash& ST investment.
Somewhere in the book it also said that EV should be viewed as the take over price of the company.
What I don’t understand is that why are items such as Inventory, current liabilities etc excluded from the calculation? Wouldn’t the acquirer need to buy the target company’s inventory and pay off its current liabilities if it decided to acquire the company?
No, they are already included. When you are performing this calculation, it is inclusive of the entire companies balance sheet. The only thing you could do is further refine it to remove items that are non-operating.
What do you mean by removing non-operating items?
If a business has non-operating machines for example, you wouldn’t want to pay for them.
thats precisely why u even deduct cash from the calculation as it does nothing but earns interest in the company’s bank a/c which is a non-operating income.
The reason we deduct cast and short term investments is because there are highly liquid and can be used to fund the takeover bid.It will enter calculation twice if we dont deduct .Suppose value of cast and ST is $20 and rest(debt + common + preferred) are $80 . that makes total takeover bid $100 .But the aquirer will also have aquired $20 ,which he can use himself .Thus net investment is $100 - $20 = $80 ,which is EV .
Go look up the video by Ashwath Damodaran on YouTube explaining the ev/ebitda multiple.
Hi , Looking up the Volume 5 Equity and Fixed Income ,Reading 50 Equity Valuation : Concepts and Basic Tools by CBOK issued by CFA Institute ,Page 246 , readers will find Paragraph on Enterprise Value (EV) .There the reason for deduction of Cash and ST investments have been given .
The previous excerpt was from Level 1 CBOK .
The reason why cash is removed from calculation of company value is simple. Why would anyone pay cash to acquire cash. Cash may be valued in equal cash sum only, not more or less.