Accounting
What is the fundamental difference between cash and accrual-based accounting?
Cash-based: Recognized revenue and expense only when cash changes hands
Accrual-based: Recognized revenue when earned and expenses when incurred, regardless of when cash is exchanged
Negative news surfaces about a company. What typically happens to the stock price vs. the senior debt?
Equity usually falls more dramatically, while senior debt has priority in a default scenario and may drop less in price.
Can Equity Value ever be negative?
Market Cap (Equity Value) cannot be negative
Company A has a 40% EBITDA margin, trading at 8x EBITDA. Company B has a 10% margin, trading at 16x. Why is comparing them tricky?
A huge margin difference can distort multiples
- Different business model, different industry ...
In a hedge fund style mandate, this metric measures excess return per unit of volaitlity and is central to evaluation risk adjusted performance
Sharpe Ratio
How might a net operating loss (NOL) factor into a company's financial projections?
NOLs can offset future taxable income, reducing cash taxes.
You reduce forecasted taxable income by the available NOLs until they're used up, lower tax expense and boosting cash flow in those periods
What are the 2 ways to return capital to shareholders?
Dividends
Share buybacks
With a 2x sales multiples and a 5x EBITDA multiple, what is the EBITDA margin?
EV/Sales = 2x and EV/EBITDA = 5x
EBITDA Margin = EBITDA/Sales = (EV/Sales)/(EV/EBITDA) = 2/5 = 40%
What is the difference between intrinsic value and relative value?
Intrinsic value uses company specific cashflows/risk (DCF) --> Fundamental Value
Relative Value compares multiples to similar companies or deals --> What are other willing to pay in relation
This market even occurs when investors who bet against a stock are forced to buy it back as the price rises, pushing it even higher
A short squezze
Assuming a 30% tax rate, walk me through 3 statements with a $20 decrease in Deferred Revenue
- Revenue: +$20 (Deferred revenue is recognized)
- Pre-tax income +$20
- NI: +$14
CF:
- NI: +$14
- (-$20) from Deferred revenue (non cash adjustment)
- Cash: (-$6)
BS:
A: Cash (-$6)
L: Deferred Revenue (-$20)
SE: +$14 in RE from NI
Why might a company willingly decrease its margins?
Market Share Expansion
Competitive Pricing Strategies
Other good answers apply
How would you value a bank such as Goldman Sachs?
P/B multiple
ROE, net interest margin, capital ratios
DDM
P/E multiples
Is a company with a 50x P/E overvalued or undervalued? Why?
How does the price of oil influence inflation?
Oil affects transportation, manufacturing, and energy costs. Higher oil prices typically raise production and shipping expenses, which can pass through to consumer prices, thus driving inflation.
You have Revenue of 100 with a 20% EBITDA margin and a 50/50 split of variable and fixed costs. How does EBITDA change if volume increases 10%?
EBITDA increases from 20 to 206
Calc:
- Total Costs = Revenue (100) - EBITDA (20) = 80
- 50/50 Split: Fixed Costs = 40, Variable Costs = 40
- Volume Increase 10%: Revenue = 100, Variable Costs = 44(40*1.1)
-Fixed Costs stay at 40
- New EBITDA = 110-44-40=26
A company has had positive EBITDA for 10 years. At the end of this year they filed for bankruptcy. How is this possible?
High Debt Levels
High Capex or Working Capital Needs
External Factors: Economic downturn, regulatory change, loss of key customers
3 biggest levers in a DCF (Greatest to Least)
1. Terminal Growth Rate/Multiple
2. WACC
3. A little more open to interpretation
Meatball: What characteristics of a company would generate a higher valuation multiple?
- Higher Revenue/EBITDA growth than peers
- Market leadership or strong moat
-Exception Management Team
- Favorable geography/resources
When the central bank raises the interest rate, what valuation input rises, which mechanically lowers the present value of future cash flows?
Discount Rate
Assume a company purchases an asset for $100 and later sells it for $110. Walk me through the impact on the three financial statements, assuming a 20% tax rate.
IS:
- Gain on sale = $10
- Tax Effect --> $2
- NI: +$8
CF:
- NI: +8$
- (-10)$ gain (non-cash adjustment)
- Full sale proceeds of $110 are recorded under CFI
- Cash: +$108
BS:
Assets: +$8
- Cash +$108
- PP&E: -$100
Liabilities: No change
SE:+$8
RE: +$8 for NI
What is the P/E of cash?
Cash yield might be 1-3%. Its P/E is roughly 1/0.01 to 1/0.03, or 33-100x.
A company has the following information. Calculate the share price:
P/E: 25x, EV/EBITDA = 12x, Tax Rate = 25%, Revenue = $2,000M, Shares Outstanding = 150M, Gross Margin = 50%, $1,000M debt at 10% interest, SG&A (including D&A) = $500M
Assume no other liabilities or equity line items besides debt and common shareholders' equity
$50/share
IS:
Revenue = $2,000
Gross Profit = $1,000 (Given Margin of 50%)
SG&A = $(500M)
EBIT: $500M
Interest: ($-100M)
Net Income: $300M
Then, calculate the valuation:
- P/E Ratio = Equity Value / Net Income = 25x (given)
Equity Value = 25 * $300M = $7.5B
Share Price = 7.5B/150M share = $50/share
Net Income: $100, EBITDA: $350, P/E: 8x, EV/EBITDA: 4x. What is net debt?
First, get Equity Value using P/E
- Equity Value = P/E * Net Income = 8 * $100 = $800
Next, get Enterprise Value
- EV = EV/EBITDA * EBITDA = 4 * 350 = 1,400
Net Debt = $1,400 - $800 = $600
This condition occurs when an asset's forward price differs from the price implied by the spot price and interest rates, creating a riskless profit opportunity
Arbitrage