The enterprise value is a measure of a company’s value as a functioning entity, often used as an alternative to straightforward market capitalization. If you were to purchase (buy out) a firm, you would start with its enterprise value and work from there to determine your offer. Thus, you can see why cash is subtracted because you would get that cash in the deal to offset what you are buying, debt and equity.
Calculating the enterprise value for public companies is relatively easy as the market cap—that is, the number of shares times the company’s share price— is publicly available. Calculating the enterprise value for private companies is for the same reason not that easy as there is no public market for the company’s stock. A common approach to valuing the equity of a private company is to compare the entity to similar companies, that is, industry, debt structure, results, and growth opportunities, which are publicly traded.
Formula for calculating Enterprise value
EV = MarketCap-Debt Minority interest+Preferred shares-Cash and cash quivalents
Example
Unilever has a market cap of Rs.61,50,000, debt in the amount of Rs.22,00,500, and cash and cash equivalents amounting to Rs.16,45,000. The company does not have any minority interest or any preferred shares. This gives an enterprise value of Rs.67,05,500.
EV = 6150000+2200500+0+0-1645000
=6705500