Can Enterprise Value be negative? What does this signify? Is it a good or bad thing, wrt value creation/investment?
I'd recently attended an interview, where the interviewer asked me whether EV can be negative. WE agreed that yes, it could. He then proceeded to ask me - what are some scenarios in which EV would be negative? What does it really signify?
My Answer: EV = EqV + Debt - Cash; Hence, a firm with a large cash balance, whose stock has been plumetting for some kind of reputational reason, could be one such scenario. I'm aware that this question has been asked on the forum (back in 2016), and I was wondering if someone could help me with a more detailed explanation - especially to the question - what does a "Negative EV" signify? As in, is it a good thing or a bad thing to have (maybe) a large amount of cash on the Balance sheet?
Happy to provide more details if the question/what I'm getting at, is unclear.
Another scenario is when your discounted cash flows are negative. Negative EV is bad, full stop. Debt outweighting EqV is not a good indicator at all.
Though, a large cash balance could also signify that company doesn't know where to use it.
Two separate questions:
1) Negative EV = present value of unlevered free cash flows is negative (e.g. an oil exploration company in a world where oil collapses to $1/bbl in perpetuity)
2) Large amount of cash on balance sheet (regardless of EV): unless there is a compelling reason to keep surplus cash (e.g. Berkshire Hathaway keeping dry powder to invest opportunistically) and generate returns in excess of your cost of equity then you should return it to shareholders - after all any shareholders who don't want to hold cash always have the option of reinvesting their dividend to get a larger % stake. This is even more true in a world where the Government will throw $ trillions of taxpayer stimulus money at companies during a downturn - there is no benefit to those companies that kept a big rainy day fund as everyone gets bailed out anyway...
bump
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