DCF DCF Equity Value and Enterprise Value 1 — Questions and Answers
Question 1: What is the difference between enterprise value (EV) and equity value in a DCF analysis?
- EV represents the value of the entire business; equity value is what remains for shareholders after deducting net debt (Correct answer)
- EV equals market capitalization; equity value includes debt
- EV is only used for private companies; equity value is for public companies
- They are interchangeable terms in DCF analysis
Correct answer: EV represents the value of the entire business; equity value is what remains for shareholders after deducting net debt
Enterprise value captures the total business value (for all capital providers), while equity value subtracts net debt to isolate the value attributable to shareholders.
Question 2: In a DCF model using unlevered free cash flows (UFCF), what do you arrive at after discounting at WACC?
- Enterprise value (Correct answer)
- Equity value
- Book value of equity
- Market capitalization
Correct answer: Enterprise value
Discounting UFCF at WACC produces enterprise value because UFCF is pre-debt, reflecting cash available to all capital providers.
Question 3: To convert enterprise value to equity value in a DCF, which of the following adjustments is made?
- Subtract net debt (total debt minus cash) (Correct answer)
- Add total debt and subtract cash
- Subtract total liabilities
- Add minority interest and subtract preferred stock
Correct answer: Subtract net debt (total debt minus cash)
Equity value equals enterprise value minus net debt (total debt minus cash), reflecting what shareholders own after all debt obligations are settled.
Question 4: Which DCF approach directly produces equity value without first calculating enterprise value?
- Levered free cash flow (LFCF) discounted at the cost of equity (Correct answer)
- UFCF discounted at WACC
- EBITDA discounted at WACC
- Operating income discounted at the cost of debt
Correct answer: Levered free cash flow (LFCF) discounted at the cost of equity
Discounting levered free cash flows (which are after debt service) at the cost of equity directly yields equity value.
Question 5: A company has an enterprise value of $500M, total debt of $120M, and cash of $20M. What is its equity value?
- $400M (Correct answer)
- $380M
- $620M
- $500M
Correct answer: $400M
Equity value = EV – net debt = $500M – ($120M – $20M) = $500M – $100M = $400M.
Question 6: Why is it important to use net debt (not gross debt) when bridging from enterprise value to equity value?
- Cash can immediately be used to repay debt, so it offsets the debt obligation (Correct answer)
- Gross debt includes off-balance-sheet items that aren't relevant
- Net debt accounts for the tax shield on interest
- Cash must be excluded because it is not part of operations
Correct answer: Cash can immediately be used to repay debt, so it offsets the debt obligation
Cash is subtracted from debt because it is readily available to repay debt, meaning the net obligation to creditors is lower than gross debt.
DCF DCF Equity Value and Enterprise Value 1
What is the difference between enterprise value (EV) and equity value in a DCF analysis?