Let’s say you have a Conglomerate A with the following: $500 market cap $400 net debt $50 minority interest $950 enterprise value Conglomerate A owns a 60% stake in Company B, and thus B is consolidated on A’s financials. Here are B’s full stats: $300 market cap $300 net debt $600 enterprise value My question is, what is A’s enterprise value excluding the value of B? I think it is $420, but I have someone else saying $540. What do you think?
I’m coming up with $420 as well by going through a hypothetical sale of company B. I think your colleague is incorrectly using 60% of company B’s enterprise value instead of 60% of the equity.
alrighty, good stuff
I’m not very practiced at this stuff, and it’s been a long time since I took L2. But isn’t it 370? Minority interest doesn’t belong to company A, so shouldn’t be included in the enterprise value, so the enterprise value of A + B should be 900-50 = 850, not 950. Then take away 300 of B’s debt and 60% of B’s 300 equity from 850 and you get 370. From an “it makes sense” point of view, why would a consolidated company own 100% of its subordinate debt? I can see arguments either way… as the controlling party, it is able to control the asset side of the balance sheet, and therefore all the stuff that the debt bought. On the other hand, unless there is a recourse agreement, it’s not on the hook for the principal in the event of bankruptcy. Or is the rule simply - put all the debt on the owning company’s balance sheet anyway, in which case the initial enterprise value is vastly misstated (which I guess would be why you ask the question "what is A’s enterprise value with B taken off the balance sheet).
Enterprise value is a measure that calculates the value of all capital associated with a company. I always take the perspective that it’s the amount of cash you would have to come up with to own the company free and clear (in this case it’s actually two companies). Typically you start with market capitalization, add the debt that you would pay off, subtract the cash on the balance sheet that you would get back. Minority interest is like debt in that you would need to pay off the minority partner if you wanted to own 100% of the company which is why it’s added to the market capitalization. In this case, if you wanted to own 100% of company A you would have to pay $500 to the current shareholders, $400 to the lenders and $50 to the minority partner for a total of $950. After you sell company B for $600, company A will have a $500 market cap, $100 in debt and $180 in cash. The minority interest will disappear since company B is no longer consolidated with company A. I used the $50 minority interest in this case and not the $120 it takes to pay the minority partner for their interest in company B because you typically do not know the value of the company that is consolidated. You could make the argument that the enterprise value in this case is actually $1,020 because you know how much you need to pay the minority partner to own both businesses. The $50 on company A’s balance sheet understates that amount.
Thanks, Chad, that’s a help. I use the TEV framework fairly rarely, so it’s nice to get a refresher.
Hi Chad, Been a while since I took L2. So, my memory’s a bit jaded. Just had a couple of questions to understand your thought process: 1) “The minority interest will disappear since company B is no longer consolidated with company A.” Since no information is given about which company has the minority interest in A, are we by default assuming it is owned by B? What if it was owned by some other company instead? 2) “After you sell company B for $600, company A will have a $500 market cap, $100 in debt and $180 in cash.” If A owns only 60% of B, then why is it assuming all of its debt after B is sold? Why not just the proportion of the debt instead? Is this the norm? What if it owned only 20% of B? 3) If I understood correctly, its 500+100(A’s debt-B’s debt)-180(from 60% of B’s equity) = 420. Is this correct? 4) “I used the $50 minority interest in this case and not the $120 it takes to pay the minority partner for their interest in company B because you typically do not know the value of the company that is consolidated. You could make the argument that the enterprise value in this case is actually $1,020 because you know how much you need to pay the minority partner to own both businesses. The $50 on company A’s balance sheet understates that amount.” If you don’t mind, could you elaborate on this point? 1,020 = 500+400+120(300-180)? Apologies if the questions are amateurish, but it will be a good refresher for me. Thanks!
- We know that company A owns 60% of company B, with the remaining 40% owned by some other company or companies. If the remaining 40% were owned by company B itself then company A would effectively own 100% of company B so that is not the case. We also know that company B is consolidated in company A’s financials. Who owns the 40% of company B is not important for this question, just that is is not company A or company B. 2) When you consolidate another company on your financials you place 100% of its assets and liabilities on your balance sheet. If it owned 20% of company B it would use either the cost method or the equity method of accounting. Less than 20% is cost and more than 20% is equity method so your 20% scenario is right on the border. 3) My math was actually the $950 EV less the $300 in company B’s debt less the $180 is cash from the sale of company B less the $50 minority interest. 4) Another way to look at this is if you wanted to own all of company A’s assets free and clear (which includes company B since it is consolidated into company A’s financials) you would need to come up with $500 for the company A shareholders, $400 to its debtors and $120 to the minority partners in company B.
Thanks Chad…that kinda makes sense now.