EV to EBITDA

by Obaidullah Jan, ACA, CFA

EV/EBITDA (also known as the enterprise multiple) is the ratio of a company’s enterprise value to its earnings before interest, taxes, depreciation and amortization. It is a valuation ratio which is arguably better than the P/E ratio because it insulates the difference between companies’ financial performance that arises out of their accounting estimates, capital structure and taxation.

Enterprise value is the total value of a company estimated as the sum of its equity value (i.e. market capitalization) and market value of minority interest, preferred stock and debt minus its cash and cash equivalents balance. EBITDA equals net income plus taxes, interest expenses, depreciation and amortization. Enterprise value is a more comprehensive measure of a target’s value as compared to market capitalization because it accounts for the market value of the company’s debt capital. EBITDA is a more stable and cleaner measure of operating performance as compared to net income because it ignores the effect of accounting policies, financing decisions and tax status of companies.

There are two variants of EV/EBITDA: (a) trailing EV/EBITDA which uses trailing twelve months (TTM) EBITDA values and (b) forward EV/EBITDA which uses projected twelve-months EBITDA.

Formula

EV/EBITDA multiple can be worked out as follows:

$$ EV/EBITDA=\frac{Enterprise\ Value}{EBITDA}=\frac{V_E+V_P+V_D-C}{NI+T+I+D+A} $$

Where VE is the market value of equity (i.e. number of shares of common stock outstanding multiplied by the current share price), VP is the market value of preferred stock, VD is the market value of debt and C stands for cash and cash equivalents. NI is net income, T is the tax expense, I is interest expense, D is depreciation expense and A is amortization expense.

Example: EV/EBITDA calculation

Click on the following links if you want to learn how to determine EBITDA and Enterprise Value.

Let’s work out EV/EBITDA given the following data:

USD in millions 2013-12 2014-12 2015-12 2016-12 2017-12
EBITDA 15,833 11,887 16,178 22,664 24,699
Cash and cash equivalents 20,021 18,954 15,238 12,960 15,512
Short-term investments 8,972 9,222 8,163 11,841 8,313
Short-term debt 14,158 14,988 18,745 29,028 26,965
Long-term debt 22,025 31,853 35,601 55,600 67,254
No. of shares of common stock outstanding (millions) 1,200 1,220 1,220 1,250 1,400
Stock price 27 38 37 40 35

We already have EBITDA values ready, but we need to work out enterprise value for each year which equals the sum of equity value and market value of debt minus cash and cash equivalents.

$$ EV\ (2017)\ =\ 1,400\ million\ \times$35+$67,254\ million\ +\ $29,965\ million\ \\-\ ($15,512\ million\ +\ $8,313\ million)=$119,394\ million $$

$$ EV/EBITDA\left(2017\right)=\frac{$119,394\ million}{$24,699\ million}=4.83 $$

Using the same formula, we can calculate EV/EBITDA for other year. The following table and chart shows EV/EBITDA for the 5-years:

Calculation of EV/EBITDA 2013-12 2014-12 2015-12 2016-12 2017-12
Enterprise value 39,590 65,025 76,085 109,827 119,394
EBITDA 15,833 11,887 16,178 22,664 24,699
EV/EBITDA 2.50 5.47 4.70 4.85 4.83

The chart below shows that the company was undervalued in 2013 and its valuation has stabilized over the future values at around 5.

EV/EBITDA

EV/EBITDA makes comparison with other companies more meaningful because it is not affected by capital structure, tax status and accounting estimates related to depreciation and amortization.