interview prep

tell us about yourself

why IB???? (I see you have extensive experience in other fields of finance)

tell us about your CIB internship?

why IB and not CIB?

why RJ??

how do you stay organized? how do you handle multiple priorities at the same time?

how do you handle working in a high stress environment and working on little sleep?

how would you value an energy company

questions for them

• the question I had about interns/analysts

strengths/weaknesses

Tell me about a time you've played an important role in a team

Walk me through how Depreciation going up by $10 would affect the statements.

Income Statement: Operating Income would decline by $10 and assuming a 40% tax rate, Net Income would go down by $6.

Cash Flow Statement: The Net Income at the top goes down by $6, but the $10

Depreciation is a non-cash expense that gets added back, so overall Cash Flow from

Operations goes up by $4. There are no changes elsewhere, so the overall Net Change in

Cash goes up by $4.

Balance Sheet: Plants, Property & Equipment goes down by $10 on the Assets side

because of the Depreciation, and Cash is up by $4 from the changes on the Cash Flow

Statement.

Overall, Assets is down by $6. Since Net Income fell by $6 as well, Shareholders’ Equity

on the Liabilities & Shareholders’ Equity side is down by $6 and both sides of the

Balance Sheet balance.

Walk me through the 3 financial statements.

How do the 3 statements link together?

If Depreciation is a non-cash expense, why does it affect the cash balance?

Although Depreciation is a non-cash expense, it is tax-deductible. Since taxes are a cash expense, Depreciation affects cash by reducing the amount of taxes you pay

Where does Depreciation usually show up on the Income Statement?

It could be in a separate line item, or it could be embedded in Cost of Goods Sold or

Operating Expenses – every company does it differently.

What happens when Accrued Compensation goes up by $10?

For this question, confirm that the accrued compensation is now being recognized as an

expense (as opposed to just changing non-accrued to accrued compensation).

Assuming that’s the case, Operating Expenses on the Income Statement go up by $10,

Pre-Tax Income falls by $10, and Net Income falls by $6 (assuming a 40% tax rate).

On the Cash Flow Statement, Net Income is down by $6, and Accrued Compensation

will increase Cash Flow by $10, so overall Cash Flow from Operations is up by $4 and the

Net Change in Cash at the bottom is up by $4.

On the Balance Sheet, Cash is up by $4 as a result, so Assets are up by $4. On the

Liabilities & Equity side, Accrued Compensation is a liability so Liabilities are up by $10

and Retained Earnings are down by $6 due to the Net Income, so both sides balance.

What happens when Inventory goes up by $10, assuming you pay for it with cash?

No changes to the Income Statement.

On the Cash Flow Statement, Inventory is an asset so that decreases your Cash Flow from Operations – it goes down by $10, as does the Net Change in Cash at the bottom.

On the Balance Sheet under Assets, Inventory is up by $10 but Cash is down by $10, so

the changes cancel out and Assets still equals Liabilities & Shareholders’ Equity

Could you ever end up with negative shareholders’ equity? What does it mean?

Yes. It is common to see this in 2 scenarios:

1. Leveraged Buyouts with dividend recapitalizations – it means that the owner of

the company has taken out a large portion of its equity (usually in the form of

cash), which can sometimes turn the number negative.

2. It can also happen if the company has been losing money consistently and

therefore has a declining Retained Earnings balance, which is a portion of

Shareholders’ Equity.

It doesn’t “mean” anything in particular, but it can be a cause for concern and possibly

demonstrate that the company is struggling (in the second scenario

What is Working Capital? How is it used?

Working Capital = Current Assets – Current Liabilities.

If it’s positive, it means a company can pay off its short-term liabilities with its short-

term assets. It is often presented as a financial metric and its magnitude and sign

(negative or positive) tells you whether or not the company is “sound.”

Bankers look at Operating Working Capital more commonly in models, and that is

defined as (Current Assets – Cash & Cash Equivalents) – (Current Liabilities – Debt).

The point of Operating Working Capital is to exclude items that relate to a company’s financing activities – cash and debt – from the calculation.

What does negative Working Capital mean? Is that a bad sign?

Not necessarily. It depends on the type of company and the specific situation – here are

a few different things it could mean:

1. Some companies with subscriptions or longer-term contracts often have negative

Working Capital because of high Deferred Revenue balances.

2. Retail and restaurant companies like Amazon, Wal-Mart, and McDonald’s often

have negative Working Capital because customers pay upfront – so they can use

the cash generated to pay off their Accounts Payable rather than keeping a large

cash balance on-hand. This can be a sign of business efficiency.

3. In other cases, negative Working Capital could point to financial trouble or

possible bankruptcy (for example, when customers don’t pay quickly and upfront

and the company is carrying a high debt balance).

What’s the difference between cash-based and accrual accounting?

Cash-based accounting recognizes revenue and expenses when cash is actually received

or paid out; accrual accounting recognizes revenue when collection is reasonably certain

(i.e. after a customer has ordered the product) and recognizes expenses when they are

incurred rather than when they are paid out in cash.

Most large companies use accrual accounting because paying with credit cards and lines

of credit is so prevalent these days; very small businesses may use cash-based

accounting to simplify their financial statements.

A company has had positive EBITDA for the past 10 years, but it recently went

bankrupt. How could this happen?

Several possibilities:

1. The company is spending too much on Capital Expenditures – these are not

reflected at all in EBITDA, but it could still be cash-flow negative.

2. The company has high interest expense and is no longer able to afford its debt.

3. The company’s debt all matures on one date and it is unable to refinance it due to

a “credit crunch” – and it runs out of cash completely when paying back the debt.

4. It has significant one-time charges (from litigation, for example) and those are

high enough to bankrupt the company.

(Remember, EBITDA excludes investment in (and depreciation of) long-term assets,

interest and one-time charges – and all of these could end up bankrupting the company.)

Walk me through a DCF

What’s the formula for Enterprise Value? When looking at an acquisition of a company, do you pay more attention to Enterprise or Equity Value?

EV = Equity Value + Debt + Preferred Stock + Noncontrolling Interest – Cash

Enterprise Value, because that’s how much an acquirer really “pays” and includes the

often mandatory debt repayment.

Why do you need to add the Noncontrolling Interest to Enterprise Value?

Whenever a company owns over 50% of another company, it is required to report the

financial performance of the other company as part of its own performance.

So even though it doesn’t own 100%, it reports 100% of the majority-owned subsidiary’s

financial performance.

Why do you subtract cash in the formula for Enterprise Value? Is that always

accurate?

The “official” reason: Cash is subtracted because it’s considered a non-operating asset

and because Equity Value implicitly accounts for it.

What are the 3 major valuation methodologies?

Comparable Companies, Precedent Transactions and Discounted Cash Flow Analysis.

When would you not use a DCF in a Valuation?

What are the most common multiples used in Valuation?

The most common multiples are EV/Revenue, EV/EBITDA, EV/EBIT, P/E (Share Price /

Earnings per Share), and P/BV (Share Price / Book Value per Share)

energy-specific multiples

Energy: EV / EBITDAX (Earnings Before Interest, Taxes, Depreciation, Amortization &

Exploration Expense), EV / Daily Production, EV / Proved Reserve Quantities

For Energy, all value is derived from companies’ reserves of oil & gas, which explains

the last 2 multiples; EBITDAX exists because some companies capitalize (a portion of)

their exploration expenses and some expense them. You add back the exploration

expense to normalize the numbers.

How do you select Comparable Companies / Precedent Transactions?

The 3 main ways to select companies and transactions:

1. Industry classification

2. Financial criteria (Revenue, EBITDA, etc.)

3. Geography

For Precedent Transactions, you often limit the set based on date and only look at

transactions within the past 1-2 years.

The most important factor is industry – that is always used to screen for

companies/transactions, and the rest may or may not be used depending on how specific

you want to be.

Two companies have the exact same financial profiles and are bought by the same

acquirer, but the EBITDA multiple for one transaction is twice the multiple of the

other transaction – how could this happen?

Possible reasons:

1. One process was more competitive and had a lot more companies bidding on the

target.

2. One company had recent bad news or a depressed stock price so it was acquired at a

discount.

3. They were in industries with different median multiples.

Walk me through how you get from Revenue to Free Cash Flow in the projections.

Subtract COGS and Operating Expenses to get to Operating Income (EBIT). Then,

multiply by (1 – Tax Rate), add back Depreciation and other non-cash charges, and

subtract Capital Expenditures and the change in Working Capital.

Note: This gets you to Unlevered Free Cash Flow since you went off EBIT rather than

EBT. You should confirm that this is what the interviewer is asking for.

How do you calculate WACC?

Cost of Equity (% Equity) + Cost of Debt (% Debt) * (1 – Tax Rate) + Cost of Preferred * (% Preferred).

How do you calculate the Cost of Equity?

Cost of Equity = Risk-Free Rate + Beta * Equity Risk Premium

The risk-free rate represents how much a 10-year or 20-year US Treasury should yield;

Beta is calculated based on the “riskiness” of Comparable Companies and the Equity

Risk Premium is the % by which stocks are expected to out-perform “risk-less” assets.

Why would you use Gordon Growth rather than the Multiples Method to calculate

the Terminal Value?

you might use Gordon Growth if you have no good Comparable Companies

or if you have reason to believe that multiples will change significantly in the industry

several years down the road. For example, if an industry is very cyclical you might be

better off using long-term growth rates rather than exit multiples.

Two companies are exactly the same, but one has debt and one does not – which

one will have the higher WACC?

The one without debt will generally have a higher WACC because debt is “less

expensive” than equity. Why?

• Interest on debt is tax-deductible (hence the (1 – Tax Rate) multiplication in the

WACC formula).

• Debt is senior to equity in a company’s capital structure – debt holders would be

paid first in a liquidation or bankruptcy scenario.

• Intuitively, interest rates on debt are usually lower than the Cost of Equity numbers

you see (usually over 10%). As a result, the Cost of Debt portion of WACC will

contribute less to the total figure than the Cost of Equity portion will.

Theoretically if the company had a lot of debt, the Cost of Debt might increase and

become greater than the Cost of Equity but that is extremely rare – the company without

debt has a higher WACC in 99% of all cases.

A company with a higher P/E acquires one with a lower P/E – is this accretive or

dilutive?

Trick question. You can’t tell unless you also know that it’s an all-stock deal. If it’s an

all-cash or all-debt deal, the P/E multiples of the buyer and seller don’t matter because

no stock is being issued

What is the rule of thumb for assessing whether an M&A deal will be accretive or

dilutive?

In an all-stock deal, if the buyer has a higher P/E than the seller, it will be accretive; if the

buyer has a lower P/E, it will be dilutive.

If a company were capable of paying 100% in cash for another company, why

would it choose NOT to do so?

It might be saving its cash for something else or it might be concerned about running

low if business takes a turn for the worst; its stock may also be trading at an all-time

high and it might be eager to use that instead (in finance terms this would be “more

expensive” but a lot of executives value having a safety cushion in the form of a large

cash balance).

Why would a strategic acquirer typically be willing to pay more for a company

than a private equity firm would?

Because the strategic acquirer can realize revenue and cost synergies that the private

equity firm cannot unless it combines the company with a complementary portfolio

company. Those synergies boost the effective valuation for the target company.

 Is there anything else “intangible” besides Goodwill & Other Intangibles that

could also impact the combined company?

Yes. You could also have a Purchased In-Process R&D Write-off and a Deferred

Revenue Write-off.

What are synergies, and can you provide a few examples? (NEEDS A BETTER ANSWER)

Basically, the buyer gets more value than out of an acquisition than what the financials would predict.

Revenue synergies

Cost synergies

All else being equal, which method would a company prefer to use when acquiring

another company – cash, stock, or debt?

Assuming the buyer had unlimited resources, it would always prefer to use cash when

buying another company. Why?

• Cash is “cheaper” than debt because interest rates on cash are usually under 5%

whereas debt interest rates are almost always higher than that. Thus, foregone

interest on cash is almost always less than additional interest paid on debt for the

same amount of cash/debt.

• Cash is also less “risky” than debt because there’s no chance the buyer might fail to

raise sufficient funds from investors.