Investment Banking Recruiting Guide

Question: Answer:

How would you value a company? How would you value a stock you were considering buying or taking public? * DCF - theoretical, intrinsic value; problem - easy to manipulate

* Trading multiples/Public Comparables - estimate of value at which a firm should publicly trade in today's market based on multiple s of similar firms; problems: bad or missing data

1. P/E multiple

2. Firm Value/EBITDA

3. Equity Value/next 12 months NI (forward looking)

4. Equity Value/Book Value (for financial institutions)

* Acquisition comparables/Comparable transactions - estimate value based on what buyers have paid for 100% of similar firms in the past; problems: limited number of transactions, dated information, missing data

What is the formula for the CAPM? Cost of Equity = (Risk Free Rate) + (Beta of Security Relative to Market Portfolio)*(Equity Risk Premium)

Walk me through major line items on the Statement of Cash Flows. Beginning Cash; Cash from Operations; Cash from Investing; Cash from Financing; Ending Cash

What is EBITDA? Why do you use it Earnings Before Interest Taxes Depreciation Amortization -- quick measure of operating CF used in valuation; Weaknesses: misses 1)taxes 2) CAPX - capital expenditures 3) debt repayment

A company with high P/E acquires a company with low P/E. Will the acquirer's P/E rise? Yes, this is an accretitive transaction - acquisition improves P/E ratio. Usually happens when Pro forma EPS > Acquires EPS and when Acquirer P/E > Offer P/E (reverse is dilutitive)

Talk about the financial statements and how they relate to one another. If you could only choose one to look at, which one would it be and why? * BS shows investing and financing activities of firm at point in time

* IS shows results of operating activities (revenues and expenses) for period of time; links BS at beginning of year to BS at end of year, NI - Divs added to Begin RE to get End RE

* SCF reports net CF relating to operating, investing, financing for period of time; explains change from BB to EB Cash on BS and parallels IS for financing and investing activities

* I would choose the statement of cash flows because it would show investing and financing activities from IS as well as effect of operations on Cash

Value a company using one line on a financial statement. Cash Flow from Operations - compare to that of similar firms, using comps to get discount rate.

This is essentially EBIT.

Purchase vs. Pooling Purchase: usually a cash purchase, generate goodwill; impact IS. Considered a buy-out.

Pooling: usually use stock to finance, no goodwill; no impact to IS; will be phased out soon. 2 companies become one and are keeping house together - no buyout is considered to have taken place.

* Critics of pooling argue that acquisitions are recorded at artificially low amounts thereby improving the appearance of subsequent financial statements. 12 conditions for when you can use pooling.

What are deferred taxes? * The amount a firm reports as income before income taxes for financial reporting usually differs from the amount of taxable income that appears on its income tax return.

Liability: arises when pretax income on tax return < financial reporting income because different accounting principles were used in financial statements and tax returns. Taxpayer will pay in future years when temporary difference reverses.

Asset: arises when firm recognizes an expense earlier for financial reporting than for tax reporting.

What is LIFO? FIFO? Inventory accounting methods

* LIFO: Last In First Out, computes EI from oldest inventory purchases and/or BI and CoGS from most recent purchases

* FIFO: First In First Out, computes EI from most recent inventory purchases and CoGS from oldest purchases and/or BI

* In periods of rising prices and increasing inventories, LIFO leads to higher reported expenses and therefore lower reported income and lower balance sheet inventories than does FIFO.

If someone gave you a hundred dollars a year for the rest of your life, how would you pay him today for the cash stream?

What is the difference between a strategic and a financial advisor?

How do you calculate a discount rate? WACC = (Weight of Debt*Cost of Debt) + (Weight of Equity*Cost of Equity) - Cost of Equity comes from CAPM

WACC= Ke* E/(D+E)+ Kd*(1-T)*D/(E+D)

Ke - Cost of Equity from CAPM - hard to calculate

Kd - Cost of Debt

E - Market Value of Equity= price* diluted stock

D - Market Value of Debt = book value

T- Marginal Tax rate

APV using unlevered equity discount rate

What is DCF? What are the weaknesses in using a DCF valuation model? DCF is typically used by companies to evaluate projects and can estimate how much value is being created by a transaction. Calculates intrinsic value of the company and is based on unlevered free cash flows. Components:

* Forecasted unlevered free CF (CF remaining after all necessary reinvestments have been made) - CF before debt service or distributions to shareholders; critical to know industry outlook, firm's competitive position, reinvestment needs, expansion opportunities; Free CF = Oper Profit - Taxes - Capital Expenditures