Accounting
Generally Accepted Accounting Principles
What is a discount rate, and why do we use it?
The discount rate is the expected rate of return from an asset. We use this metric to bring value to future expectations in the present day (apples to apples comparison) for financial decision making.
WACC is used to discount the unlevered free cash flows for an entire firm (creditors & equity holders)
Ke can be used to discount levered free cash flow which is the cash flow available to equity holders of the firm
What does WACC stand for?
Weighted-Average Cost of Capital
Financial System at which there are suppliers and users of capital. Lenders/Savers include individuals, households, governments, businesses, etc. Financial intermediaries aggregate and distribute capital. Borrowers/Spenders include individuals, business firms, and governments.
What are Capital Markets?
Where is the S&P500 currently trading at? What was today's change so far?
Open:$5,844 as of 5/13/25
Stay up to date with things like this, be able to ballpark the movement of the S&P, as it helps you stay up to date with the overall market sentiment.
Walk me through the major line items of the three financial statements.
Revenue > Less: COGS > Gross Profit > Less: OpEx > Pre-tax Income > Net Income
CFS (3 main sections): Top line is Net Income, this leads to operating activities to calc your CFO, then you have your investing activities to calc the CFI, lastly you have your financing activities to calc CFF, Bottom line is Net Change in Cash
B/S: Net change in cash flows to the Assets side of the balance sheet into the Cash cash account, Current Assets > Total Assets (in order of liquidity); Current Liabilities > Total Liabilities (order of liquidity); Shareholder's Equity>Retained Earnings, Common Stock.
How are Net Present Value and Internal Rate of Return associated?
NPV is a cash flow value for the project (If above 0, it generates cash flow for the firm; if below 0, the project loses money for the firm)
IRR is associated with cash flows but does not discount them, rather, measures its rate of return. This rate is then used to compare with the discount rate/expected rate of return for the project.
IRR is the discount rate at which NPV is 0.
IRR > Discount rate, NPV > 0
IRR < Discount rate, NPV < 0
What is the WACC equation
WACC = (weight of debt * cost of debt *(1-tax)) + (weight of equity * cost of equity)
X = Cash Flow / (1+r)^n
What is the Present Value formula?
The current Chair of the Federal Reserve.
Who is Jerome Powell?
Walk me through the 3 statements when there is a $10 increase in depreciation. Tax = 25%
IS: Pre-tax income down 10, Net Income down 7.5
CFS: NI is down 7.5, add back D&A (bc non-cash), CFO = 2.5, CFI=0, CFF=0. Net Change in Cash = up 2.5
B/S: Cash up 2.5; PPE down 10, RE down 7.5
When companies discount cash flows at the end of the year.
What is the End of Year Convention?
Bonus Tip: A model can also have a Mid-Year Convention function built in. Why? Because an end of year convention only values the cash flows from the firm at the end of the year, when, in reality, the firm is generating cash flows throughout the entire year, thus, we are trying to accurately reflect the timing of cash flows in our model (always think about the limitations of the types of analyses that we cover to create a more dynamic model). Therefore, discounting cash flows at the end of the year "over discounts" cash flows and "under estimates" the NPV/value of the firm. Hence, for more accurate cash flow, we use Mid-Year Convention.
How do you solve for the cost of equity?
Capital Asset Pricing Model (CAPM)
k (e) = Risk-Free Rate + (Levered Beta * Market Risk Premium)
Given that the U.S. Treasury Bond is currently trading at 4.5% and the market has an expected return of 12%. If a company has a beta of 1.3, what is the expected rate of return for that company?
CAPM = rf + b*(MRP)
4.5+1.3*(12-4.5)
14.25%
Describe the events of "Liberation Day". What was the aftermath?
April 2, 2025, announcement of universal and reciprocal tariffs. To preserve American manufacturing, jobs, and reduce the trade deficit, President Trump declared universal 10% tariffs on majority of imports (excl. Mex & Can); he also announced reciprocal tariffs on nearly 60 countries.
Impacts: Global fear in the US markets led every major index to drop sharply (SP500 down over 10% in first two days); small business costs rose; uncertainty for domestic manufacturing, etc.
A company decides to issue $100 dividends. Walk me through the 3 statements to show this effect.
IS: No. CFS: CFO=0, CFI=0, CFF=-10, Net = -10. B/S=Cash is -10, RE is -10
Walk me through a Discounted Cash Flow (DCF) analysis.
1. Project out cash flow for the next 5 years
2. Project terminal value using Multiples or Gordon Growth method
3. Discount cash flows to present value using the WACC
4. Discount terminal value to present value using the WACC
5. Take the sum of cash flows and add to the terminal value to get your Net Present Value
6. Based on your NPV, decide if the project is worth taking.
What does it mean to "unlever" beta? What is the equation?
Bonus: how do you relever beta? And why?
Unlever beta means to remove the capital structure (D/E) from the beta (typically pulled from Bloomberg). In order to do this, you use the equation: Levered Beta / (1+(1-tax)*D/E)
Relever the beta that you found with your target company's D/E ratio by:
Unlevered Beta * (1+(1-tax)*D/E)
We use these equations to compare companies with different capital structures to have an apples to apples comparison. (more in today's lesson)
You are looking to purchase a bond for $1,000 with a 5-year term. The bond has an annual 6% coupon with a current interest rate of 8%. What is the present value of the bond?
(920.15)
N = 5
I/Y = 8% (interest rate is from the bond terms)
PMT = 60 (from 6% coupon; this is the annual coupon cash flow)
FV = 1,000 (receive face value of the bond at maturity/end of N)
When you buy coupon bond, you demand an annual coupon from the entity that is borrowing from you. At the end of the bond term (this can range), you receive your coupon AND are returned your loan of $1,000, the company is paying you back. But, how much are the coupons and loan payback valued at today?
Discuss a current event in the market.
Current event, Macroeconomic implications, Future Outlook, Impact on role of an analyst, impact on broader economic environment, etc.
At the start of Year 1, Foxconn buys new factories for the iPhone for $100, financed by 100% debt with an interest rate of 10%. At the time of purchase, walk me through the 3 statements.
Now, Year 1 is over; we are at the start of Year 2. Assume debt is high-yield and you do not pay off any principal. Assume depreciation is 10% of asset value per year. Tax = 20%. Walk me through the 3 statements.
Now, Year 2 is over; we are at the start of Year 3. Assume all the factories break down and are written down to $0. You must also pay back the entire loan from Year 1. Walk me through the 3 statements.
1) No IS; CFS: CFO=0, CFI=-100, CFF=+100, Net Change in Cash = 0; B/S: Cash unaffected, PPE up 100, Liabilities > L/T Debt up 100. Balance @+100
2) IS: EBIT is -10 (D&A), EBT is down 20 (int. exp), NI is -16. CFS: NI is -16, add back D&A, CFO= -6. CFI=0, CFF=0. Net Cash = -6. B/S: Cash is -6, PPE is -10, RE is -16. Balance @ -16
3) IS: EBIT is -90 (asset write down); NI is -72. CFS: NI=-72, add back 90 from write down, CFO=+18, CFI = 0. Pay back the 100 loan, CFF=-100. Net change is -82. B/S: Cash is -82, PPE is -90. Liabils. -100, RE is -72 from NI. Balance @ -172
What are 3 places where the tax rate impacts a DCF?
Cost of Debt (Tax Shield), Cash Flow (Free Cash Flow Eqn to solve for NOPAT or Net Income), Cost of Equity (Levered Beta Eqn.)
Salas & Singh are analyzing their cost of capital for the firm. Notes: 60% is comprised of debt, the current yield on their debt is 5%, the expected return on equity is 9%. Tax rate is 20%. What is the firm's Weight-Average Cost of Capital?
60% debt, 40% equity
60%*5%*(1-20%) + 40%*8%
=5.6%
What is the equation to calculate Free Cash Flow?
Unlevered FCF: [EBIT*(1-tax)] + non-cash changes (D&A) - Change in NWC - CapEx
Levered FCF: Net Income + Non-cash changes (D&A) - Change in NWC - CapEx - Mandatory Debt Repayments
Talk about a recent deal that you have been following.
Acquirer/Target
Banks that represent both side
Deal Valuation
Financing Mix
Rationale
Implications, etc.