Accounting
What are the three main financial statements and what do each of them show?
1. Income Statement - show a company's revenue and expenses over a period of time
2. Balance Sheet - show a company's assets, liabilities, and equity at a point in time
3. Cash Flow Statement - shows a company's sources and uses of cash over a period of time
What discount rate do you use in a DCF?
The WACC
What is the most common valuation multiple?
EV/EBITDA
Why would you use leverage when buying a company?
To increase your returns
Where does Net Income show up on the statement of cash flows?
Top of the Cash Flow Statement under cash from operations.
What is the formula for CAPM and what does it measure?
CAPM measures the cost of equity
re = rf + B(rm - rf)
What are three criteria for building out a comps list? (How should you choose comps)
1. Industry
2. Size
3. Geography
What variables impact an LBO model the most?
Purchase and exit multiples. (Also, leverage, revenue growth, and EBITDA margins.)
If you could only use one statement to review the overall health of the company, what statement would you choose and why?
The Cash Flow Statement, because it shows how much cash a company is generating and using, independent of non-cash expenses (Unlike the other statements, which use accrual accounting)
What are the two different ways to calculate a company's terminal value and how do you do them?
1. PGR method - take the company's terminal year cash flows and divide them by the wacc - the chosen growth rate
2. Exit Multiple Method - multiply the company's terminal year EBITDA by the chosen EV/EBITDA multiuple
Remember to discount both of these values back to the present
Precedents, because buyers tend to pay a premium when buying out companies due to control premium, expected synergies, etc
What is an “ideal” candidate for an LBO?
Stable and predictable cash flows, low-risk businesses, low CapEx needed, opportunity for margin expansion, strong management, etc.
Where does depreciation show up on the income statement?
It's usually buried within Cost of Goods Sold or other operating expenses, like SG&A
Walk me from revenue to unlevered free cash flow
Start with revenue, subtract cost of goods sold and other operating expenses to get EBIT, multiply by one minus the tax rate to get NOPAT, add back depreciation, subtract increases in networking capital, and subtract capital expenditures
Give three reasons why two companies might trade at different multiples
1. Different Growth Rates
2. Different amount of Fixed Assets
3. Competitive Advantage/Market Leadership
4. Size Premium
5. Good Management
6. Margins
7. Industry Risk
What are the two measures of return private equity sponsors look at when evaluating a transaction?
IRR - annualized return of the project taking into account the time value of money; the discount rate that makes the NPV of the project equal to 0
MOIC - ending cash/beginning cash
How does buying a factory for $100 funded with 50% debt and 50% common stock impact the three financial statements? (Hint: think about I/S, CFS, then B/S)
Income Statement - no impact, since there are no revenue or expenses
Cash Flow Statement - Cash from financing Increases by $100 ($50 from common stock, $50 from debt), while cash from investing decreases by $100, leading to net cash change of $0
Balance Sheet - PPE increases by $100, debt increases by $50, common stock increases by $50
How does increasing the tax rate impact the enterprise value output of a DCF?
It's ambiguous, because it lowers your unlevered free cash flow by reducing NOPAT, but increases your wacc by increasing the interest tax shield.
Why might two companies with the same EBITDA and EV/EBITDA multiple have different P/E ratios?
Capital Structure - EV/EBITDA doesn't take into account a company's capital structure so the company with more debt debt will have a lower P/E ratio
Who would pay more between a financial sponsor and a strategic buyer and why?
Strategic, because of synergies