Club Prep Shit

What is a financial model, in simple terms?

A simplified estimate of a company's value — like a blueprint for a building. It won't capture every detail, but it reveals major problems and lets you make a decision.

If two people build different models and get different valuations, who's "right"?

Neither is definitively right — both are predicting the future. But the one whose assumptions are more realistic (e.g., a growth rate that's plausible given the company's size and history) is more likely to be correct.

What are the 3 main use cases for financial modeling?

Stock investing (should I buy/sell?), M&A advising (should a client acquire another company?), and leveraged buyouts (can a PE firm hit its return target by buying, improving, and reselling a company?).

Do you ever make a decision based solely on a financial model?

No — a model informs a decision the way evidence informs a courtroom verdict. It doesn't dictate it alone.

Why is $100 today worth more than $100 in 5 years?

Because you could invest that $100 today and end up with more than $100 in 5 years — not primarily because of inflation.

True or False: the time value of money exists only because of inflation.

False. Even with zero inflation, money today is worth more because you could invest it and earn a return.

What's the term for "what you give up by not investing your money elsewhere"?

Opportunity cost.

How do you decide between a high-deposit/no-rent option vs. a low-deposit/rent option (e.g., an apartment lease)?

Compare the rent you'd pay under the low-deposit option to what you could realistically earn by investing the money you saved on the deposit. If your investment return beats the rent cost, take the lower deposit.

What does "Discount Rate" represent?

Your opportunity cost, or "targeted yield" — what you could earn on your money elsewhere, given similar risk.

Why is the Discount Rate higher for stocks than for bonds/debt?

Because stocks carry more risk and higher potential returns; debt offers a more certain, fixed return.

What does Present Value (PV) mean?

What a future cash flow is worth today, once discounted at your opportunity cost.

If your Discount Rate goes up, what happens to a company's Present Value?

It goes down — a higher Discount Rate means you have better alternatives, so future cash flows are worth less to you today.

What does WACC stand for, and what is it?

Weighted Average Cost of Capital — the blended Discount Rate for a company, based on the proportion of equity and debt it uses to fund itself, and the "cost" of each.

Formula for WACC?

(% Equity × Cost of Equity) + (% Debt × Cost of Debt).

If a company is 60% equity / 40% debt, with a 10% cost of equity and 5% cost of debt, what's its WACC?

8% → (0.60 × 10%) + (0.40 × 5%) = 6% + 2% = 8%

Why is equity almost always more expensive than debt for a company?

Because equity investors take on more risk than lenders, so they demand higher potential returns in exchange.

What does IRR (Internal Rate of Return) measure?

The effective compounded annual return an investment generates — essentially, the "yield" you're actually getting.

How is IRR different from a regular Discount Rate?

With IRR, you solve for the rate (it's unknown); with a Discount Rate, you typically already know or assume the rate going in.

What Discount Rate makes an investment's NPV equal exactly $0?

The IRR — by definition, discounting all cash flows at the IRR always produces an NPV of zero.

How do you decide if a project or investment is worth doing, using IRR?

Compare IRR to WACC (or opportunity cost) for that same specific project/division. If IRR > WACC, invest; if IRR < WACC, don't.

Does the Discount Rate affect IRR?

No — since IRR is the rate you're solving for, it's independent of what your opportunity cost happens to be.

Company-wide WACC is 11%, but the WACC for a company's new regional division is 8%. The division's IRR is estimated at 10%. Should they proceed?

Yes — you compare IRR to WACC at the project/division level, not the company-wide level. 10% > 8%, so it clears the bar.

What is Net Present Value?

Present Value of an investment's cash flows minus the upfront price paid for it.

If an investment's PV is $1,000 and it costs $800 upfront, what's the NPV?

$200.

What does Excel's "NPV" function actually calculate?

It actually calculates Present Value (PV), not Net Present Value — you still have to subtract the upfront cost yourself to get true NPV.

What's the single most important formula for valuing a company (with growth)?

Company Value = Cash Flow / (Discount Rate − Cash Flow Growth Rate).

A company generates $200 in cash flow, growing at 4%/year. Your target yield is 10%. What's it worth?

$200 / (10% − 4%) = $3,333.

All else equal, does higher cash flow growth make a company more or less valuable?

More valuable — you're willing to pay more upfront for faster-growing cash flows.

All else equal, does a higher Discount Rate make a company more or less valuable to you?

Less valuable — a higher Discount Rate means you have better alternatives elsewhere, so you're only willing to pay less.

The core formula seems simple — why is real-world valuation so much harder?

Because each input is genuinely difficult to pin down: there are multiple ways to define "cash flow," growth rates aren't constant over time, Discount Rates can shift, and "company value" itself has multiple meanings (e.g., value to equity holders only vs. to all investors).

What are the two main measures of "how much a company is worth" that require separate definitions?

Equity Value (value to shareholders only) and Enterprise Value (value to all investors, both debt and equity).