Investors often use market capitalization, or market cap, and enterprise value interchangeably when discussing a company's valuation. However, there is a big difference between the two metrics. Here's a look at what each metric measures and how they differ.
Market capitalization, or market cap, is the market value of a company's outstanding shares. It is calculated by multiplying the current share price by the number of shares outstanding. For example, if a company has 10 million shares outstanding and the current share price is $100, the market cap is $1 billion.
Enterprise value, or EV, is a company's market cap plus its debt, minority interest, and preferred shares, minus cash and cash equivalents. In other words, EV is the theoretical takeover price.
To calculate a company's enterprise value, you start with its market cap. Then, you add its debt, minority interest, and preferred shares. Finally, you subtract cash and cash equivalents.
The key difference between market cap and enterprise value is that market cap only includes the market value of a company's outstanding shares while enterprise value includes the market value of a company's outstanding shares as well as its debt and cash.
Another way to think about the difference is that market cap is the value of a company that an investor would acquire if they bought all of the company's shares. Enterprise value is the value of a company that an investor would acquire if they bought the entire company, including its debt.
Market cap is the most commonly used metric when valuing a company. It is a good starting point for analyzing a company because it is easy to calculate and widely available.
However, market cap does have some limitations. For example, it does not take into account a company's debt or cash. This can be misleading because a company with a high market cap may actually be less valuable than a company with a lower market cap when you consider its debt and cash.
Enterprise value is a more comprehensive metric than market cap because it takes into account a company's debt and cash. This makes it a better metric for comparing companies with different capital structures.
For example, two companies may have the same market cap but different enterprise values. Company A may have $1 billion in debt and $100 million in cash while Company B may have $500 million in debt and $200 million in cash. Company A has a higher enterprise value because it has more debt.
There is no clear answer as to which metric is better. It depends on your investment goals and the type of analysis you are doing.
If you are looking for companies with high growth potential, market cap may be a better metric to use because it is easier to find companies with low market caps.
If you are looking for companies that are undervalued, enterprise value may be a better metric to use because it takes into account a company's debt and cash.
Market capitalization and enterprise value are two important metrics that investors use to value companies. They are both measures of a company's worth, but they differ in how they are calculated and what they include.
Market cap is the market value of a company's outstanding shares and is the most commonly used metric when valuing a company. Enterprise value is a company's market cap plus its debt, minority interest, and preferred shares, minus cash and cash equivalents.
There is no clear answer as to which metric is better. It depends on your investment goals and the type of analysis you are doing.
