Acquirer's Multiple

The Acquirer's Multiple (also known as the 'Enterprise Multiple') is a powerful valuation ratio used by value investing practitioners to find potentially undervalued companies. Championed by investor and author Tobias Carlisle, this metric offers a more comprehensive view than the popular P/E Ratio by treating a company as a potential acquisition target. Instead of just looking at the stock price, it calculates the “all-in” cost to buy the entire business—including its debt—and compares that total cost to the company's core operational earnings. The core idea is simple: a lower multiple suggests you're paying a cheaper price for the company's profit-generating engine. This approach helps investors sidestep companies that look cheap on the surface but are actually burdened with massive debt, providing a more realistic assessment of a company's true value. It's a favorite tool for deep value investors looking for “cigar butt” opportunities or solid businesses temporarily out of favor with the market.

The beauty of the Acquirer's Multiple lies in its straightforward and logical formula. It tells you exactly how much it would cost to “acquire” the company for every dollar of its operating earnings. The formula is: Acquirer's Multiple = Enterprise Value (EV) / Operating Earnings Let's unpack these two key ingredients.

Think of Enterprise Value as the true takeover price of a company. If you were to buy a business outright, you wouldn't just pay for its stock; you'd also have to assume its debts. On the flip side, you'd get to keep any cash in its bank account. EV captures this reality with the following calculation:

• EV = Market Capitalization + Total Debt - Excess Cash

1. Market Capitalization: This is the value of all the company's shares. It's the price you see on the stock market ticker multiplied by the total number of shares.
2. Total Debt: This includes all interest-bearing borrowings, both short-term and long-term. A company with high debt is riskier and more expensive to buy, and EV rightly adds this to the cost.
3. Excess Cash: This is the cash a company holds that isn't needed for its day-to-day operations. Since an acquirer gets this cash, it effectively reduces the purchase price.

For the denominator, we use Operating Earnings, which is a company’s profit before the effects of interest and taxes. This figure is often represented by EBIT (Earnings Before Interest and Taxes). Why use this specific measure of profit? Because it reveals the core profitability of the business itself, stripped of any distortions from its capital structure (how much debt it uses) or the tax regime it operates under. It allows for a cleaner, apples-to-apples comparison between different companies, showing how well the underlying business operations are performing.

This metric isn't just another piece of financial jargon; it's a practical tool designed to give you a genuine edge.

The biggest weakness of the P/E ratio is that it completely ignores a company's debt. A firm might look incredibly cheap with a P/E of 5, but if it's drowning in debt, it's a ticking time bomb. The Acquirer's Multiple solves this by incorporating debt directly into its calculation via Enterprise Value. It forces you to look at the entire capital structure, giving you a truer picture of the investment's risk and cost.

By using operating earnings (EBIT), the multiple zeroes in on what truly matters: the business's ability to generate profits from its primary activities. It cuts through the noise of accounting tricks, tax strategies, and financing decisions, helping you see the raw earning power you're buying.

In his book “The Acquirer's Multiple,” Tobias Carlisle presented extensive back-tested data showing that a strategy of investing in a portfolio of companies with the lowest Acquirer's Multiples consistently and significantly outperformed the broader market over several decades. This provides strong historical evidence for its effectiveness as a screening tool.

Knowing the formula is one thing; using it wisely is another.

In general, lower is better. A single-digit multiple is often a great starting point for further investigation. A company with an Acquirer's Multiple of 6, for instance, means you are theoretically paying $6 for every $1 of its annual operating earnings. However, “low” is a relative term. You should always compare a company's multiple to:

• Its own historical average.
• The multiples of its direct competitors in the same industry.
• The average multiple of the overall market.

Important: The Acquirer's Multiple is a screening tool, not a crystal ball. It's brilliant at unearthing potentially cheap stocks, but it can't tell you why they are cheap. A low multiple could signal a fantastic, overlooked opportunity, or it could be a classic “value trap”—a company that's cheap for a very good reason, like a dying business model or terrible management. After you've found a company with an attractive multiple, the real work begins. You must roll up your sleeves and perform your due diligence. Ask critical questions:

• Does the company have a durable competitive advantage or moat?
• Is the management team competent and shareholder-friendly?
• What are the long-term prospects for the industry and the company?

The Acquirer's Multiple gets you to the starting line, but sound qualitative judgment is what helps you cross the finish line successfully.