What is Equity Multiple?

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If an investor’s multiple on a particular investment is two times in 5 years, then it means that the equity that the person has invested will double in size in 5 years. Such a measure is particularly useful if the investment is made for a longer horizon. However, this is not the only measure of return. There are many other things to consider for evaluating an investment opportunity.

 

Equity Multiple Explained

  • It helps to gauge the ROI made by your own money. If you have taken debt and it has helped increase the return, then this multiple will increase. Every industry has a specific kind of measuring mechanism that helps them portray the real return of investing in that industry. The most common measuring mechanism of return in the case of the real estate industry is this calculation.Equity meansEquity MeansEquity refers to investor’s ownership of a company representing the amount they would receive after liquidating assets and paying off the liabilities and debts. It is the difference between the assets and liabilities shown on a company’s balance sheet.read more the money invested from a pocket, or in other terms, the actual investor’s money that got invested. Multiple means folds. It shows how much your money has increased that you have invested in real estate. We can also explain this concept with the help of the levered equity multiple. If the return on investment is 200% and you have only $200M, but you borrowed $400M more, the total return will be 200% of (400 + 200) = $1200M. So this is coming out to be 1200/200 = 6 Times. Earlier the multiple without debt was 400/200 = 2 times. So a levered equity multiple is more than what it is without leverage.An equity multiple reviews is used in real estate to show the return on the investment. For example, real-Estate dealers show the projected multiple to buyers to sell properties. Investors find it easy to understand as the return is presented in multiple calculations. So an investor sees that if they invest money in real estate, how many folds will the money increase. So this method is quite popular in the real-estate world.

Equity Multiple Formula

Equity Multiple = Present Value of the Investment / Amount of Money Invested

Key Takeaways

  • Equity multiple calculation determines the return on investment, and if often used in the field of real estate.It acts as a multiple to calculate the ROI for an investment. If the multiple scores 5 in five years, the value of the investment is likely to be five times what it is today in five years.The formula for calculating the multiple is the Present Value of the Investment / Amount of Money Invested.This multiplier is frequently used in real estate in which the investor can estimate how much value a real estate investment can generate after a time period.

  • Present value Of the Investment = This is the property’s value in present terms.Amount of Money Invested = How much money is invested from the pocket of the investor

How To Calculate?

Examples

Let us try to understand the equity multiple calculation with some examples.

  • To calculate the figure, we need to know the money invested by the Investor. It is the initial investment. The next step is the projection or actual value of the property after a certain period. This step is very important. In the case of property dealers, they will try to portray this figure BIG as they want to sell the property. Dividing the actual value of a property with the invested amount will give the target equity multiple.

Example #1

David bought a property for $5M 10years ago. The present value of the property is $10M. First, calculate the multiple of the property.

Solution:

Formula = Present Value of the Property / Amount Invested

So David has earned a return equivalent to 2 times his investment in 2 years.

Example #2

Maxwell bought a property for $8M 5 years back and is earning an income of $200,000 every year from the property. The current value of the property is $25M. Let us do the calculation.

Equity Multiple = (Present Value of Property + Income from Property) / Amount Invested

So Maxwell has earned a profit equal to 3.25 times his investment.

Equity Multiple Vs. IRR

  • An equity multiple review gives a better understanding about how much return an investment will be able to give after a few years. But IRR which is the internal rate of returnInternal Rate Of ReturnInternal rate of return (IRR) is the discount rate that sets the net present value of all future cash flow from a project to zero. It compares and selects the best project, wherein a project with an IRR over and above the minimum acceptable return (hurdle rate) is selected.read more. shows the return percent on investment of one dollar. It means the discount rate needed to make the future value of an investment equal to the present value of the investment. It is the discount factorDiscount FactorDiscount Factor is a weighing factor most often used to find the present value of future cash flows, i.e., to calculate the Net Present Value (NPV). It is determined by,
  • 1 / {1 * (1 + Discount Rate) Period Number}read more, so if the IRR is more than the interest rate prevailing in the market for a particular project, then it is logical to put the money in it and not invest it in market securities.Equity multiple doesn’t compare the return with the return from the market. It shows how many folds your investment has gone up. So this return is more investor specific. It will change from investor to investor if an investor has invested a higher amount for a similar property than another investor. Then  it will be less for an investor who has spent more.

Advantages

  • These are easy to calculate. There is no tough calculation involved in it.It shows how much the investment will increase. Unlike other return calculations, investors will have to calculate the future value by adding the returns year on year.It includes future value, income from investment, and interest paid on capital. So this portrays the true picture considering all the factors.

Disadvantages

  • It doesn’t consider the time factor. If the multiple throws a result of 2, it doesn’t specify whether the multiple two was reached within one year, two years, or five years.It doesn’t compare the interest rate that is prevailing in the market. It is more investor specific. If the initial investment changes, then the multiple value will also change.

Conclusion

It is a common method by which the total returnTotal ReturnThe term “Total Return” refers to the sum of the difference between the opening and closing value of all the assets over a particular period of time and the returns thereon. To put it simply, the changes in opening and closing values of assets plus the number of returns earned thereof is the Total Return of the entity over a period of time.read more from an investment is calculated. Property dealers often portray this multiple to sell properties. However, investors should consider the time factor before considering the multiple. For example, if there are two investments with equity multiple 2, you should see the time frame. If the first investment has a time frame of 5 years and the second one with a time frame of 10 years, you should consider the first investment.

The formula can obtain this value, Present Value of the Investment / Amount of Money Invested. It entails how many folds the value of the investment has increased.

Internal Rate of Return (IRR) is the discount rate required to bring an investment’s future worth into line with its current value. Equity Multiple, on the other hand, is the multiple that determines by how many folds the value of the investment will increase.

This value is a very easy and accurate multiplier to determine the growth of an investment. However, it also entails the future value of the investment and factors for interest rates. A good Equity Multiple is greater than 1.0x

This article has been a guide to what is Equity Multiple. We explain its formula, calculation, examples, its difference with IRR & its advantages and disadvantages. You can learn more about it from the following articles –

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