14.1 Valuation Methods and Enterprise Value

Why Valuation Methods Matter for FMVA

Valuation asks what a business is worth. On the FMVA final that is a modeling skill, not an essay. Valuation is about 10% of the exam and sits on the finance and three-statement work already in this guide. CFI's 2026 core path splits the skill across Introduction to Business Valuation, DCF Valuation Modeling Fundamentals, Applied DCF Valuation Modeling, and Comparable Valuation Fundamentals. This chapter is the foundation those later chapters assume: which methods count as going-concern valuation, what enterprise value (EV) includes, and how you move between EV and equity value.

A one-line boundary matters for exam scope. Leveraged-buyout (LBO) modeling and full mergers-and-acquisitions (M&A) process courses are electives. You need electives for FMVA eligibility, but elective deal content is not tested on the final. Do not spend final-exam hours on LBO returns or merger accretion.

CFI also distinguishes going-concern value from liquidation value. A going-concern valuation assumes the firm continues to operate, reinvest, and earn returns on capital. Liquidation asks what the assets would fetch if you shut the firm down. The three methods in this section are going-concern methods. If a stem says the company is being wound up, you are no longer in the core DCF-and-comps toolkit.

The Three Going-Concern Methods

CFI teaches three going-concern methods:

1. Discounted cash flow (DCF) — an intrinsic method. You forecast unlevered free cash flow (UFCF), discount it at the weighted average cost of capital (WACC), and the present value is enterprise value.
2. Comparable companies analysis (trading comps) — a relative method. You apply trading multiples (for example EV/EBITDA or P/E) from similar public companies to the target's metric.
3. Precedent transactions analysis — a relative method. You apply multiples paid in completed deals for similar companies. Deal multiples often embed a control premium that trading multiples do not.

Intrinsic means the value comes from the firm's own cash flows and risk. Relative means the value is inferred from prices someone else already paid, scaled by a metric. Neither family is automatically "more correct." CFI's professional standard is to triangulate: run all three, then read the range (the football field you will build in the comparable-valuation chapter). A DCF that sits 40% above every trading multiple is not automatically right; it is a signal that growth, margin, WACC, or terminal value needs a second look.

DCF is the method this chapter and the next chapter build in full. Comps and precedents are sketched here so you can see why EV — not just equity market cap — has to be consistent across methods. You cannot apply an EV/EBITDA multiple to a metric and then compare the result to a P/E without translating between EV and equity.

Intrinsic versus Relative, and Why EV Is the Common Language

A DCF of UFCF at WACC does not land on equity value. It lands on the value of core operations, which belongs to all capital providers: lenders, preferred holders, non-controlling owners, and common shareholders. That quantity is enterprise value. Trading comps that use EV/EBITDA or EV/EBIT speak the same language. Price-to-earnings (P/E) and price-to-book speak equity language. Mixing the two without a bridge is one of the highest-frequency valuation errors on applied exams.

Relative methods are only as good as the peer set. If you value a high-growth software firm off a set of mature hardware manufacturers, the multiple is the wrong measuring stick. Precedents add a second filter: the deals must be close in business mix, geography, and time, and you must remember that buyers often pay for control and for synergies that a minority trading price does not include. Those details live in Chapter 16. The point for this section is simpler: whatever method you use, you need a clean definition of EV and of the equity claim.

Enterprise Value: Simple and Extended Identities

CFI's simple enterprise-value identity is:

EV = equity market capitalization + market value of debt − cash

CFI's extended identity, which is the one you should default to when the capital stack is not just common-plus-debt, is:

EV = common equity + preferred stock + debt + non-controlling interest (NCI) − cash

Market cap is share price × shares. For valuation, those shares should be fully diluted, which we unpack below. Debt is the market value of interest-bearing debt, not a random book-value plug. Cash (and, when material, other non-core cash-like investments) is subtracted. The bar chart above is Northline Packaging's stack; it is a teaching snapshot, not a published CFI table of official values.

Worked Example: Northline Packaging's Capital Stack

Northline Packaging's current market snapshot:

• 50.0 million basic common shares at $24.00 → common equity of $1,200 million before dilution
• Preferred stock with $80 million market value
• Bonds with $400 million face trading at 97.5 → market debt of $390 million
• Non-controlling interest of $45 million (from a consolidated subsidiary)
• $70 million of surplus cash, treated as non-operating

Simple EV if you ignored preferred and NCI: 1,200 + 390 − 70 = $1,520 million. That figure is incomplete. Extended EV: 1,200 + 80 + 390 + 45 − 70 = $1,645 million. The $125 million gap is not a rounding difference; it is two claims (preferred and NCI) that have a right to the same operating cash flows your DCF will discount.

If you used book equity of, say, $510 million and face debt of $400 million, you would invent a different firm. WACC weights and EV both use market claims. Book figures belong on the three-statement model, not in the EV identity.

Why Preferred Is Treated Like Debt in EV

Preferred stock usually pays a fixed dividend and stands ahead of common equity. It is not a residual claim on upside in the way common is. CFI therefore treats preferred like debt in EV: it is a non-common claim on the enterprise. You add preferred when you go from equity value to EV, and you subtract it when you go from EV to equity value.

Two traps follow. First, preferred dividends are not tax-deductible, so WACC does not give preferred a (1 − T) shield — that was Chapter 3. Second, preferred is still not common equity. Leaving it inside "market cap" because it sits in the equity section of the balance sheet overstates the common residual.

Why Non-Controlling Interest Is Added

When a parent owns, for example, 80% of a subsidiary, consolidation still brings 100% of the subsidiary's revenue, EBITDA, and unlevered cash flow onto the parent's statements. The 20% you do not own is non-controlling interest (NCI) (also called minority interest). If your DCF or your EV/EBITDA multiple is built on 100% of the operations, EV must include 100% of the enterprise. You add NCI when you build EV, and you subtract NCI when you want the value that belongs to the parent's common shareholders.

Skipping NCI is a silent overstatement of common equity: you counted all of the sub's cash flows and then pretended the outside owners do not exist.

Why Cash Is Subtracted

Cash is subtracted because an acquirer can use it to pay down the purchase price. If you buy a firm with $70 million of surplus cash, that cash is a non-operating asset you can take out, use to repay debt, or keep. It is not required to generate the UFCF you are discounting. So EV, the value of operations, excludes that cash; equity holders still own it, which is why you add cash back when you bridge from EV to equity.

Strictly, the item is excess / non-operating cash (and non-core investments). Operating cash that the business needs to run is already reflected in working-capital needs. On the FMVA final, unless a stem flags a minimum cash balance, CFI's working identity subtracts the cash figure you are given. Do not subtract cash twice: if you formed net debt = debt − cash and then subtracted cash again, you understate EV.

Fully Diluted Equity and the EV-to-Equity Bridge

Equity value for per-share outputs uses fully diluted shares. Dilution includes in-the-money options, warrants, and convertibles that are assumed to convert. Out-of-the-money options are ignored under the usual treasury stock method (TSM) because they would not be exercised at the current price.

Treasury Stock Method, Worked

Northline also has 4.0 million employee options with a $15.00 strike. The share price is $24.00, so the options are in the money.

• Proceeds if exercised = 4.0 million × $15.00 = $60 million
• Shares that $60 million can repurchase at $24.00 = 60 / 24 = 2.5 million
• Net new shares = 4.0 − 2.5 = 1.5 million
• Diluted shares = 50.0 + 1.5 = 51.5 million
• Diluted common equity at the market = 51.5 × $24.00 = $1,236 million

Using 50 million basic shares understates the common claim. Using 54 million (basic plus all options, no treasury offset) overstates it. Do not add the $60 million proceeds to cash and use net diluted shares; pick one consistent TSM treatment. CFI's clean exam treatment is: price × TSM diluted shares, cash left as the non-core cash already identified. Updating Northline's extended EV on diluted common: 1,236 + 80 + 390 + 45 − 70 = $1,681 million.

In-the-money convertibles are treated as equity (the shares go into the diluted count) and are not also counted as debt. If conversion is not assumed, the instrument stays in debt. Double-counting convertibles as both debt in EV and shares in the denominator is an integrity error.

Reversing the Identity: From EV to Equity

You will most often run this identity backwards. A DCF of UFCF at WACC outputs EV. CFI's "arriving at equity value" step is then:

Equity value = EV + cash − debt − preferred − NCI

Per-share value = equity value / diluted shares.

If Northline's DCF produced EV of $1,800 million, then equity value = 1,800 + 70 − 390 − 80 − 45 = $1,355 million. Divided by 51.5 million diluted shares = $26.31 per share, versus the $24.00 market price. That gap is a view, not a fact; the next chapters stress-test WACC, terminal value, and the peer multiples that should sit next to it.

Exam Traps for Section 14.1

• Treating liquidation as a fourth going-concern method.
• Calling comps "intrinsic" because they use the firm's own EBITDA.
• Building EV from book equity or face debt.
• Dropping preferred or NCI.
• Forgetting to subtract cash, or subtracting it twice via net debt.
• Using basic shares for a per-share DCF output.
• Applying a P/E multiple and reporting the result as enterprise value.
• Spending final-exam time on LBO mechanics; those electives are not on the exam.