Basic Accounting for Investment Banking

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Questions and Answers

Which of the following financial statements is NOT directly impacted by the capitalization of a purchase in year 0?

Income Statement (correct)
Balance Sheet
Statement of Cash Flows
Statement of Shareholders' Equity

What is the primary difference between EBIT and EBITDA?

EBIT is a non-GAAP metric, while EBITDA is a GAAP metric.
EBITDA is a non-GAAP metric, while EBIT is a GAAP metric.
EBIT includes depreciation and amortization, while EBITDA does not. (correct)
EBIT includes interest expense, while EBITDA does not.

What is the main reason why cash is excluded from the calculation of Enterprise Value?

Cash is not a meaningful asset for valuation purposes, as it is not tied to the core operations of a business. (correct)
Cash is too volatile to be reliably included in a valuation.
Cash is generally a small part of a company's total assets, so it is often ignored in valuation calculations.
Cash is already accounted for in the company's equity value.

Which of the following valuation techniques relies on comparing a target company to similar businesses that have been acquired recently?

Comparable Transactions (B) Signup and view all the answers

In the context of financial analysis, what does the term 'Comparable Public Companies' refer to?

Businesses operating in the same industry as the target company and publicly traded on exchanges. (C) Signup and view all the answers

Which of the following is NOT a common valuation ratio used in Comparable Transactions analysis?

EV / Book Value of Equity (D) Signup and view all the answers

A company with negative EBITDA would most likely be best valued using which of the following methods?

Discounted Cash Flow analysis (A) Signup and view all the answers

What is the primary goal of Discounted Cash Flow (DCF) analysis?

To determine a company's intrinsic value by discounting its future cash flows to their present value. (A) Signup and view all the answers

Which of the following is a common metric used to assess the value of a business based on its operations, regardless of its capital structure?

Enterprise Value (B) Signup and view all the answers

Which of the following is NOT typically included in the calculation of Enterprise Value?

Cash (B) Signup and view all the answers

What is the main difference between Comparable Transactions analysis and Comparable Public Companies analysis?

Comparable Transactions analysis relies on data from past acquisitions, while Comparable Public Companies analysis uses data from publicly traded companies. (D) Signup and view all the answers

Which of the following statements is TRUE concerning the impact of depreciation expense on a company's financial statements?

Depreciation expense decreases net income and increases cash flow. (D) Signup and view all the answers

How does an increase in a company's accrued expenses impact the Balance Sheet?

Increases liabilities and decreases assets. (C) Signup and view all the answers

What is the primary purpose of a Leveraged Buyout (LBO) analysis?

To evaluate the financial feasibility of acquiring a company using a significant amount of debt. (C) Signup and view all the answers

Which of the following is NOT typically considered a key factor in the valuation of a company using the Comparable Public Companies analysis?

Cash flow projections for the target company. (C) Signup and view all the answers

What is the main relationship between a company's Income Statement and its Balance Sheet?

All of the above. (D) Signup and view all the answers

Which of the following is NOT a key assumption used in a DCF analysis?

The business's current level of debt (C) Signup and view all the answers

In a DCF analysis, which of the following describes the 'Terminal Value'?

The value of the business at a specific future date, considering the business is sold or continues operating (C) Signup and view all the answers

How does an increase in working capital affect the unlevered free cash flow (UFCF) in a DCF model?

Decreases UFCF (B) Signup and view all the answers

What is the main purpose of discounting cash flows in a DCF analysis?

To reflect the risk associated with future cash flows (A) Signup and view all the answers

What is the relationship between the discount rate used in a DCF analysis and the value of the business?

Higher discount rate leads to lower business value (B) Signup and view all the answers

Which of the following is NOT a common method for calculating the terminal value in a DCF analysis?

Net Income multiple (A) Signup and view all the answers

How does an increase in the cost of debt affect the WACC?

Increases WACC (B) Signup and view all the answers

What is the impact on the value of a business in a DCF analysis if its revenue growth rate increases?

Increases value (D) Signup and view all the answers

How does an LBO analysis differ from a DCF analysis?

LBO focuses on the equity investor's return, while DCF considers both debt and equity investors (A) Signup and view all the answers

Which of the following changes in assumptions in an LBO analysis would likely increase the potential return for the equity investor?

Increase in the sale price of the business at the exit (A) Signup and view all the answers

What is the significance of understanding the assumptions behind a DCF analysis?

All of the above (D) Signup and view all the answers

How does the concept of 'unlevered free cash flow' differ from 'free cash flow to equity'?

Unlevered free cash flow considers only cash flows generated by the business, while free cash flow to equity includes cash flows after debt payments (D) Signup and view all the answers

What is the purpose of sensitivity analysis in a DCF model?

To assess the impact of changing key assumptions on the business valuation (D) Signup and view all the answers

In a DCF analysis, why is it important to use a discount rate that reflects the risk associated with the company?

To account for the time value of money and potential risks (A) Signup and view all the answers

What is the primary difference between a DCF analysis and a comparable company analysis?

DCF focuses on financial statements, while comparable company analysis relies on market valuations (C) Signup and view all the answers

How does increasing available debt impact the implied value of a business?

It increases the implied value because the equity investor can borrow more and therefore pay more while maintaining their investment amount. (C) Signup and view all the answers

What happens to the implied value of a business when the investor has a higher return requirement?

The implied value decreases because the investor can't invest as much to realize the expected sale proceeds. (A) Signup and view all the answers

What is the main takeaway regarding transactions in the provided context?

It's important to understand the specific logistics, timelines, and legal requirements of different transaction types. (C) Signup and view all the answers

Which of the following is NOT mentioned as a typical transaction type discussed in the context?

Merging with another company (C) Signup and view all the answers

Why is it particularly important to understand the transaction types where you're interested in pursuing a career?

It increases your chances of securing an internship or job in a specific investment banking specialization. (D) Signup and view all the answers

What is the primary reason why an investment banker needs to understand accounting?

To analyze the financial health of a company being considered for investment. (A) Signup and view all the answers

What is the main focus of investment bankers' understanding of accounting?

The amount of cash a business generates and its potential to generate cash in the future. (D) Signup and view all the answers

Which financial statement reflects a company's financial position at a specific point in time?

Balance Sheet (C) Signup and view all the answers

How does the Cash Flow Statement bridge the Income Statement and the Balance Sheet?

By adjusting net income for non-cash expenses and cash flows from investing and financing activities. (C) Signup and view all the answers

Which of the following is NOT a typical cash flow activity assessed on the Cash Flow Statement?

Cash flow from production activities (C) Signup and view all the answers

In the example provided, how does the purchase of a $10 piece of equipment impact the Balance Sheet at year 0?

Increases assets by $10, no impact on liabilities or equity. (A) Signup and view all the answers

How does the purchase of a $10 piece of equipment impact the Income Statement at year 1, assuming a depreciable life of 5 years and a tax rate of 20%?

Increases expenses by $2, decreases net income by $0.4. (C) Signup and view all the answers

Which of these is NOT a common area that an interviewer might evaluate during an accounting competency check?

Analyzing the profitability of a company based solely on the Income Statement. (D) Signup and view all the answers

Flashcards

Accounting

The process of measuring and reporting financial health of businesses.

Investment Banking FOCUS

Investment bankers focus on cash generation and future cash expectations.

Three Financial Statements

The key statements: Income Statement, Balance Sheet, Cash Flow Statement.

Income Statement (IS)

Reflects business performance based on accrual accounting - cash and non-cash revenues and expenses.