When valuing a company, the starting point is usually the equity valuation. In order to help you value a company based on its assets and its debts, in this article I will show you the 4 methods of calculating the equity value most used in value investing.
The calculation of the equity value, the first step in the valuation process
Normally, the first step in the business valuation process is usually an analysis of its equity value. In other words, we want to know the value of the assets of the company after deducting its debts. In other words, we will assess the company based on 2 questions:
- How much is it worth?
- How much do you owe?
Although it seems that the calculation is simple, there are different methods to determine the equity value of a company. Next we will examine the 4 most used methods in value investing, which are the following:
- Book Value, Book Value or "Book Value"
- Adjusted Book Value or "Adjusted Book Value"
- Net Current Assets or “Net Current Asset Value”
- Adjusted Net Current Assets or “Net Net Working Capital”
Book Value, Book Value or "Book Value": Calculation and example
The Book Value method is the easiest to calculate and also the most widely used. However, it can be imprecise when the value shown on your balance sheet does not correspond to its real value. The book value is used to calculate the ratio Price Book Value, of which I have already told you on another occasion.
Calculation of Book Value or Book Value
The formula is very simple:
VC = Total Assets - Total Liabilities
Example of the calculation of Book Value
Let's start with the following balance for all the examples.
Example of balance sheet for the calculation of the intrinsic value by the different equity valuation methods
All data are in millions of euros.
The calculation of the book value is very simple:
VC = 13.756 - 4.510
VC = 9.246 million euros
Adjusted Book Value or "Adjusted Book Value": Calculation and example
The Adjusted Book Value (“Adjusted Book Value” in English or VCA or ABV for its acronym) is another of the most used equity valuation methods. This method of calculating the equity value is used in cases where the balance sheet does not reflect the real value of the assets.
The Adjusted Book Value is used to calculate the ratio Price Adjusted Book Value.
Calculation of the Adjusted Book Value
VCA = Book Value + - Off-book valuation adjustments
Off-the-books valuation adjustments are those we make because we consider that the figure indicated in the company's balance sheet does not accurately reflect its real value.
For example, the value of the properties reflected in the balance sheet is usually higher than its real value, so a positive adjustment should be made.
The Adjusted Book Value may be higher or lower than the Book Value, depending on whether the company's balance sheet overvalues or undervalues its assets.
The problem with this method is that to calculate the Adjusted Book Value it is necessary to know the company well to determine if the value of the assets that appears in its accounting corresponds to their real value.
Example of Adjusted Book Value
Suppose that the properties of the company that we have analyzed, which are valued at 5.138 million euros, according to our calculations, are actually worth 7.138 million, that is, 2.000 million more.
Suppose also that the 1.677 million that you have in your inventory are overvalued, and that we estimate that they are worth 1.177 million, that is, 500 million less.
Then your Adjusted Book Value, based on the Book Value, would be:
VAC = 9.246 + 2.000 - 500
VCA = 10.746 million euros
Net Current Asset Value or “Net Current Asset Value” (NCAV): Calculation and example
The equity valuation method of Net Current Asset or “Net Current Asset Value”, better known by its acronym NCAV, is one of the most conservative valuation methods, since only current assets are taken into account when valuing a company. company, regardless of the value of its fixed assets.
Cálculo del Net Current Asset Value
NCAV = Current Assets - Total Liabilities
NCAV calculation example
Using the balance sheet of the example, the calculation of the equity value using the net current assets method will be as follows
NCAV = 6.765 - 4.510
NCAV = 2.255 million euros
Adjusted Net Current Assets or “Net Net Working Capital” (NNWC): Calculation and example
I usually translate the term "Net Net Working Capital" as adjusted net current assets. It is the most restrictive method when calculating the equity value of a company, since, in addition to not taking into account the value of fixed assets, it adjusts the value of current assets.
Net Net Working Capital is an equity valuation method devised by Benjamin Graham, parent of value investing. This method was widely accepted in the 30s and 40s, when most companies were industrial and markets were much less efficient. However, nowadays it is a little used method although it can be used to find the occasional "collo".
Companies whose market capitalization is inferred from their NNWC are often called “net-nets”. If it is no longer easy to find companies with NCVAV above their market capitalization, it is almost an impossible mission to find companies with market capitalization below the NNWC, although from time to time a case does arise during periods of market crashes.
Cálculo del Net Net Working Capital
NNWC = Money and liquid assets + 0,75 * Debtors + 0,5 * Inventories - Total Debt
As you can see, this method of calculating the equity value does not take into account the value reflected in the balance sheet of fixed assets, but adjusts them only taking into account the value of the assets.
NNWC calculation example
NNWC = 4.073 + 0,75 * 815 + 0,5 * 1.677
NNWC = 1.012 million euros
To finish, I leave you a Excel with the calculation of the equity value of the example with the different methods that we have seen. If you have any questions, I await your comments.