Earnings Power Value (EPV)

Earnings Power Value (EPV) is a valuation method that estimates the value of a company based on the sustainability of its current earnings and its cost of capital, explicitly excluding assumptions about future growth. It was popularized by Bruce Greenwald as a way to reduce the subjectivity inherent in discounted cash flow (DCF) models.

Key takeaway

• EPV estimates the value of a firm’s ongoing operations by dividing adjusted, sustainable earnings by the weighted average cost of capital (WACC).
• It focuses on current, realizable earnings rather than forecasting future growth.
• EPV equity (business EPV plus excess net assets less debt) can be compared with market capitalization to judge over- or under-valuation.
• Main limitation: EPV assumes business conditions remain stable and therefore ignores growth and many sources of variability.

EPV formula

EPV = Adjusted earnings / WACC

Where:
* EPV = earnings power value of business operations
* Adjusted earnings = normalized, after-tax operating earnings adjusted for nonrecurring and accounting items
* WACC = weighted average cost of capital

How to calculate EPV (step-by-step)

1. Start with operating earnings (EBIT). Use an average over a business cycle (typically at least five years) to smooth cyclical fluctuations.
2. Compute normalized EBIT by applying average EBIT margins to a sustainable revenue level.
3. Convert normalized EBIT to after-tax earnings: Normalized EBIT × (1 − average tax rate).
4. Add back non-cash or other recurring but conservative adjustments, such as excess depreciation on an after-tax basis.
5. Make further adjustments to reflect economically meaningful items:
6. Unconsolidated subsidiaries or minority interests
7. Current restructuring charges (if not sustainable)
8. Pricing power or other structural advantages
9. Any material, recurring items that distort reported earnings
10. Divide the resulting adjusted earnings by WACC to obtain EPV for business operations.
11. To arrive at EPV equity:
12. Add excess net assets (e.g., surplus cash, market value of real estate, minus legacy liabilities)
13. Subtract the market value of debt
    The result is comparable to market capitalization.

Important: EPV is intended to represent the firm’s current free cash‑flow capacity discounted at the firm’s cost of capital; it is not a projection of future growth-driven cash flows.

What EPV tells you

EPV shows the level of distributable cash flows a company could sustain under current operations and competitive conditions. Because it relies on realized earnings rather than forecasts, it reduces dependence on optimistic assumptions about future growth, margins, or required reinvestment.

Limitations and cautions

• Static assumptions: EPV assumes that current operating conditions and profit margins are sustainable indefinitely, which may be unrealistic.
• Ignores growth: By design, EPV does not capture value from future growth opportunities.
• Competitive and regulatory risk: It does not explicitly model competition, disruptive threats, or regulatory changes that could materially alter earnings.
• Accounting distortions: Adjusting reported earnings requires judgment; errors in adjustments can materially affect EPV.

Practical use

• Compare EPV equity to market capitalization to assess potential undervaluation or overvaluation.
• Use EPV as a conservative baseline valuation, then supplement with other methods (DCF, relative valuation, scenario analysis) to capture growth and risk considerations.

Origin and further reading

EPV was developed and promoted by Bruce Greenwald and colleagues as part of a value-investing framework intended to reduce reliance on speculative assumptions. For deeper study, consult Greenwald’s work on value investing and valuation techniques.