EBIT/EV Multiple
The EBIT/EV multiple, shorthand for earnings before interest and taxes (EBIT) divided by enterprise value (EV), is a financial ratio used to measure a company's "earnings yield."
The concept of the EBIT/EV multiple as a proxy for earnings yield and value was introduced by Joel Greenblatt, a noteworthy value investor and professor at Columbia Business School.
Definition: The EBIT/EV multiple ratio is the ratio of a company's Earnings Before Interest and Taxes (EBIT) to its Enterprise Value (EV). It is a financial metric used to measure a company's 'earnings yield.' This ratio helps investors assess a company's profitability without considering tax and interest expenses.
Origin: The EBIT/EV multiple ratio as a proxy for earnings yield and value was introduced by Joel Greenblatt, a renowned value investor and professor at Columbia Business School. Greenblatt detailed this concept in his book 'The Little Book That Still Beats the Market,' where he included it as part of his 'Magic Formula' investing strategy.
Categories and Characteristics: The EBIT/EV multiple ratio has the following key characteristics:
- Simple and Understandable: The ratio is easy to calculate and understand.
- Comprehensive: By considering Enterprise Value (EV), the ratio reflects both the market value and debt situation of a company.
- Widely Applicable: It is suitable for companies of different sizes and industries, especially useful for value investing analysis.
Specific Cases:
- Assume Company A has an EBIT of 10 million yuan and an EV of 50 million yuan. Its EBIT/EV multiple ratio would be 10/50 = 0.2 or 20%. This means that for every 1 yuan of enterprise value, investors can earn 0.2 yuan of EBIT.
- Company B has an EBIT of 20 million yuan and an EV of 100 million yuan. Its EBIT/EV multiple ratio would be 20/100 = 0.2 or 20%. Although Company B has higher absolute profits, its earnings yield is the same as Company A.
Common Questions:
- How is Enterprise Value (EV) calculated? Enterprise Value is typically calculated as market capitalization plus debt minus cash and cash equivalents.
- What are the limitations of the EBIT/EV multiple ratio? The ratio does not consider tax and interest expenses, which may limit its comparability between companies with significant differences in tax rates and interest expenses.
