Definition
Equity value is the value that belongs to the owners of a company after its debts are deducted and its cash is counted. In a share sale it is broadly the amount the sellers receive for their shares. It is calculated from enterprise value by adding cash, subtracting debt and debt-like items, and adjusting for any difference between actual and agreed working capital.
In an asset sale you buy selected assets of a business; in a share sale (a stock sale in the US) you buy the company itself, with its full history. The choice shapes risk, tax and what needs consent.
Enterprise value is the value of a business's operations as a whole, regardless of how it is financed. Adjusting it for cash, debt and working capital gives the equity value the owners receive.
Worked example
Kloofnek Engineering (Pty) Ltd is a fictional South African business with an agreed enterprise value of R20,000,000. At completion:
- cash in the bank is R2,000,000
- a bank loan of R5,000,000 is outstanding
- a tax bill of R1,000,000 from an earlier year is unpaid and treated as debt
- working capital is R500,000 below the agreed peg
Equity value = R20,000,000 + R2,000,000 minus R5,000,000 minus R1,000,000 minus R500,000 = R15,500,000.
The sellers receive R15,500,000 for their shares, before any holdback or escrow is deducted.
A holdback is part of the purchase price the buyer keeps back at completion and pays later if no valid claims arise. Unlike escrow, the money stays with the buyer.
Escrow is an arrangement in which an independent third party holds money until agreed conditions are met. In a business sale it keeps part of the price available to cover claims after completion.
Why buyers care
Sellers tend to think about the money they will receive; buyers, lenders and investors often think in enterprise value. Knowing both figures helps you avoid agreeing a price in principle and later discovering you each meant something different.
Equity value is also what you have to fund. Your deposit, bank loan and any seller finance must together cover the equity price and your transaction costs. If the company's existing debt is repaid at completion, as it often is on a cash-free, debt-free deal, that repayment usually has to be funded too; any debt left in the company still has to be repaid from the business's cash flow. Ask your accountant and lawyer to settle the definitions of cash, debt and working capital in the purchase agreement.
Seller finance is when the seller lends the buyer part of the purchase price, to be repaid with interest after completion. It is also called vendor finance or a seller note.
Cash-free, debt-free is a pricing basis in which the headline price assumes the business changes hands with no cash and no borrowings. The seller keeps the cash, repays the debt and leaves a normal level of working capital behind.