What Is the Enterprise Value-to-Revenue Multiple (EV/R)?

What Is the Enterprise Value-to-Revenue Multiple (EV/R)?

Let me explain the enterprise value-to-revenue multiple, or EV/R, directly to you. It's a straightforward measure that compares a company's enterprise value to its revenue, helping investors like you determine if a stock is priced fairly. You can think of it as one of several fundamental indicators in your toolkit for stock analysis. Beyond that, EV/R often comes into play when evaluating a company's worth during a potential acquisition. Sometimes it's referred to as the enterprise value-to-sales multiple, but the concept remains the same.

Key Takeaways

Here are the essentials you need to grasp about EV/R. It's primarily a way to measure a stock's value by pitting enterprise value against revenue. You'll find it particularly handy for determining a company's valuation in acquisition scenarios. Importantly, it works even for companies that aren't generating income or profits yet, which sets it apart from some other metrics.

Understanding Enterprise Value-to-Revenue Multiple (EV/R)

When you dive into EV/R, you're essentially comparing a company's revenues to its enterprise value. The key point is that a lower EV/R multiple indicates the company might be undervalued, which is what you're looking for as an investor. This metric is commonly applied as a valuation tool during acquisitions, where an acquirer uses it to pinpoint a fair value. I want you to note why enterprise value is used here: it incorporates debt that the acquirer would assume and subtracts cash that they'd receive, giving a more complete picture.

How to Calculate Enterprise-Value-to-Revenue Multiple (EV/R)

Calculating EV/R is simple once you have the numbers. You take the company's enterprise value and divide it by its revenue. Enterprise value itself is market capitalization plus debt minus cash and cash equivalents. That's the basic formula you'll use most of the time.

For a more detailed approach, some prefer an expanded version that includes preferred shared capital and minority interest in the enterprise value calculation. But stick to the core method unless those factors are significant in your analysis.

Example of How to Use Enterprise Value-to-Revenue Multiple (EV/R)

Let me walk you through a practical example so you can see EV/R in action. Suppose a company has $20 million in short-term liabilities, $30 million in long-term liabilities, $125 million in assets with 10% as cash, 10 million shares outstanding at $17.50 each, and $85 million in revenue last year.

First, calculate enterprise value: it's (10,000,000 shares times $17.50) plus ($20 million + $30 million) minus ($125 million times 0.1), which comes to $212.5 million. Then, EV/R is $212.5 million divided by $85 million, equaling 2.5.

In the real world, look at retailers like Wal-Mart, Target, and Big Lots. As of mid-2020, their enterprise values were $433.9 billion, $79.33 billion, and $3.36 billion, with trailing 12-month revenues of $534.66 billion, $80.1 billion, and $5.47 billion. That gives EV/R ratios of 0.81, 0.99, and 0.61, respectively, showing how you compare them.

The Difference Between Enterprise Value-to-Revenue Multiple (EV/R) and Enterprise Value-to-EBITDA (EV/EBITDA)

You should know how EV/R differs from EV/EBITDA. EV/R focuses on a company's revenue-generating ability, while EV/EBITDA examines its capacity to produce operating cash flows. The latter accounts for operating expenses, but EV/R sticks to the top line. This makes EV/R ideal for early-stage companies like Amazon in its beginnings, where profits weren't there yet but revenue was.

Limitations of Using Enterprise Value-to-Revenue Multiple (EV/R)

Be aware of EV/R's limitations before relying on it. You must compare it within the same industry and against top performers to judge if it's good or bad. Unlike market cap, which you can pull easily from sites like Yahoo! Finance, EV/R demands you calculate enterprise value yourself, adding debt, subtracting cash, and possibly factoring in more if using the detailed formula. This extra step can be a drawback.