9.1. DEFINITION OF VALUE MULTIPLES

Value multiples require two inputs—an estimate of the value of a firm or its operating assets in the numerator and a measure of revenues, earnings, or book value in the denominator. We begin by looking at variations on measurement of firm value and at the appropriate and consistent scaling measures for firm value in the second part of the section.

9.1.1. Measuring Value

In addition to two issues we confronted when measuring equity value—how best to deal with cash and with equity options—there are two more issues that we face when estimating firm value that relate to how to deal with cross holdings and what to include in debt.

9.1.1.1. Cum-Cash or Ex-Cash

The conventional measure of firm value is obtained by adding the market value of equity to the market value of debt. However, this firm value measure includes all assets owned by the firm including its cash holdings. Netting cash out from firm value yields enterprise value, which can be considered to be the market value of just the operating assets of the firm.

Firm value = Market value of equity + Market value of debt

Enterprise value = Market value of equity + Market value of debt − Cash holdings

Some analysts draw a distinction between operating cash and excess cash, with only excess cash being subtracted to get to enterprise value. The definitions of operating cash vary widely, though, and we would be well served drawing a distinction between wasting and nonwasting cash, with nonwasting ...

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