Corporate Valuation Interview Questions
What is the difference between Equity Value and Offer Value? Between Enterprise Value and Transaction Value?
Offer Value is used in a precedent transactions setting, so it will include the equity value plus some control premium. Similarly for EV and transaction value.
How do you calculate Transaction Value?
Offer value plus net debt of the target company
What types of securities are included in diluted shares?
Other than common stock, these also include options, restricted stock units, and convertible securities which are "in the money" (i.e. their strike price is less than the current share price).
Which Income Statement line items would appear before EBIT?
Sales, COGS, SG&A, D&A (if separated out).
What does WACC represent? How do you calculate WACC?
WACC (weighted average cost of capital) represents a company's risk factor. It is the required rate of return for both debt and equity investors. WACC can be calculated as follows: Ke [cost of equity] * E/(D+E) [% equity] plus Kd [cost of debt] * (1-T) [assumes interest is mostly tax deductible] * D/(D+E) [% debt]
Which Income Statement line items would appear after EBIT?
Interest expense (or income), pre-tax income, tax expenses
What are a few ways that a private equity firm can return cash from its investment?
It can sell the company, take the company public, or undergo a dividend recapitalization.
Which is the most relevant valuation method?
It depends!
Walk me through a public comps analysis.
1. relative valuation method 2. comparing a company with similar companies at a specific point in time based on public information. 3. relative valuations are created based on key multiples from companies comparable to the one you wish to value.
Walk me through a DCF.
A DCF values a company based on the Present Value of its Cash Flows and the Present Value of its Terminal Value. First, you project out a company's financials using assumptions for revenue growth, expenses, and Working Capital; then you get down to (unlevered) Free Cash Flow for each year, which you then sum up and discount to a Net Present Value, based on your discount rate - usually the Weighted Average Cost of Capital. Once you have the present value of the Cash Flows, you determine the company's Terminal Value, using either the Multiples Method or the Gordon Growth Method, and then also discount that back to its Net Present Value using WACC. Finally, you add the two together to determine the company's Enterprise Value.
How can you determine if a deal is accretive or dilutive?
A deal is accretive if the pro forma EPS is GREATER than the acquirer's standalone EPS. It is dilutive if the pro forma EPS is LESS than the acquirer's standalone EPS
When analyzing a recent transaction, what type of useful information appears in a Fairness Opinion?
A fairness opinion will usually provide: - a DCF valuation - a comparable company analysis - a comparable transaction analysis - an LBO analysis
Describe a leveraged buyout.
A leveraged buyout is a financing technique for acquiring a company which focuses on cash flows generated by the target company during the investment period.
Explain how the tax rate affects a DCF analysis.
A lower tax rate leads to higher after-tax cash flows, which should increase DCF projections, despite the fact that a lower tax rate should also increase WACC.
Describe a merger consequences analysis.
A merger consequences analysis looks at how a transaction impacts the financial position of a potential buyer by looking at: - effect on earnings per share - pro forma leverage/capitalization - pro forma ownership
Walk me through a precedent transactions (/acquisition comps/etc...) analysis
A precedent transaction analysis, similar to a public comps analysis, is a relative form of valuation. In this case, we are interested in comparing our current deal to similar transactions that have happened in the past and using multiples from similar transactions to project what multiple the company should be sold at.
What are the key differences between Equity Value and Enterprise Value?
Equity value represents the value of shareholders' interest, whereas enterprise value includes the value of all forms of capital, including equity, debt, preferred stock, and non-controlling interest.
Why add Noncontrolling Interest when calculating Enterprise Value?
Because when you are using multiples that include EV, they are often being compared to figures for the entire company (e.g. EBITDA), not just the percent that you own, so we want these comparisons to be apples-to-apples.
How do bankers use valuation to advise clients on the buy-side? On the sell-side?
Buy-side: advise clients on possible acquisition targets and how much they should offer for them including valuing potential synergies. Sell-side: advise clients on whether or not the offers they are receiving are suitable given the company's valuation.
What are the advantages of using EBITDA in financial analysis and valuation?
By excluding the impact of accounting and financing decisions related to capital expenditures, EBITDA allows for more accurate comparisons between similar firms, especially if one firm is in the midst of extensive capital projects while the other is not.
What are the major components of a DCF?
Calculating the company's free cash flow Discounting it to its present value Calculating the company's terminal value
Why subtract Cash & Equivalents from EV?
Cash gets subtracted when calculating Enterprise Value because (1) cash is considered a non-operating asset (and EV is the value of the operating assets of the company) AND (2) cash is already implicitly accounted for within equity value.
How do you calculate a control premium?
Compare the offer price to the share price of the company 1 day, 1 week, and 1 month ago.
What factors affect a private equity firm's ability to pay for a target?
Debt capacity is the most important factor.
Why use one multiple over another?
Depending on what you are looking at, different multiples may provide more insight than others.
What are weaknesses or shortcomings of EBITDA?
EBITDA does not include a handful of important financial indicators, such as: 1. CapEx 2. Interest 3. Debt Repayments (among others)
Describe EBITDA. Why do we use it?
EBITDA, or Earnings Before Interest, Taxes, Depreciation, and Amortization, is a proxy for the cash flow generation ability of a company. Most companies are bought and sold on multiples of EBITDA, so it is considered a relevant metric.
What is the difference between Equity and Enterprise Value Multiples?
Equity Value multiples are applicable ONLY to equity shareholders, whereas Enterprise Value multiples are applicable to all capital holders.
Describe purchase accounting.
Purchase accounting involves looking at the target's assets and liabilities at "fair market value" on the date of acquisition.
What is goodwill and how is it calculated?
Goodwill is an intangible asset and reflects the excess purchase price of a company over the fair market value of its net assets.
Which factor has the biggest influence on the price of a company?
Growth.
In a 100% stock deal, how can you tell from P/E if the deal is accretive or dilutive?
If Acquirer P/E > Offer P/E, the deal is accretive If Acquirer P/E < Offer P/E, the deal is dilutive
How do you calculate terminal value using the perpetuity growth method? The exit multiple method?
Perpetuity method: = [FCFn * (1+g)]/[r-g] where g is the the growth rate and r is usually the WACC Exit multiple method: =EBITDAn * Multiple
What are examples of industry-specific multiples?
Some examples include: - EV/book value for financial institutions - EV/sales for startups
What are synergies? What are the various types of synergies?
Synergies represent factors between two companies such that the value of the combined company is greater than the sum of its parts. These include: - cost savings - revenue benefits - CapEx benefits
Where can you find synergy estimates?
Synergy estimates can usually be found in company press releases or investor presentations.
What does the control premium represent?
The control premium represents what you have to pay the seller to gain control of the company (usually 20-40%)
Walk me through calculating the cost of equity using CAPM.
The cost of equity can be calculated from the following equation: rf [risk free rate] plus βL [levered beta] * (rm - rf) [where rm = market risk premium] [risk free rate is usually the US 10-year treasury rate]
How would you estimate the exit multiple?
The exit multiple is usually based on the industry, where it represents the average multiple for a sale in that industry.
How would you estimate the perpetuity growth rate (g)?
The perpetuity growth rate is usually estimated using the GDP growth rate.
What factors might influence the transaction multiple that a buyer is willing to pay?
There are several, including potential synergies and whether or not there are multiple bidders.
What are the primary ways to value a company?
There are three primary ways to value a company. Two of these are considered 'relative' valuations: 1. public comps and 2. precent transactions. The third method, which is considered 'intrinsic', is a discounted cash-flow analysis.
How might a company with positive EBITDA still go bankrupt?
This could happen for a number of reasons, including a credit/liquidity crunch, large one-time expenses, or huge CapEx needs, all of which would not be included in EBITDA.
How many years do you project annual unlevered free cash flows?
Usually 5-10 years.
Why do we normalize for non-recurring items?
We are only interested in ongoing/recurring items, because they allow us to compare multiples historically and to peers.
Starting at revenue, how do you get to unlevered free cash flows?
You start with revenue, then subtract COGS and SG&A to get EBTIDA, then subtract D&A to get EBIT, then subtract tax, add back D&A, subtract CapEX, subtract the change in intangibles, and add the decrease in Working Capital.
Discuss a recent LBO transaction you have been following.
[insert very good answer here]
Identify a good LBO candidate and discuss your rationale.
[name candidate here] It is a good candidate because it - has strong, predictable operating cash flow - is mature and steady - has a strong defensible market position - has limited CapEx and product development requirements - is undervalued or has synergy opportunities - is owned by a motivated seller [a private company where owners want to cash out; a large company eager to sell off non-core subsidiaries] - has a viable exit strategy
