3 factor to keep in mind when looking for "perfect bond" - answer-date of issuance: look for bonds issued over last 1-2 years
maturity date: bonds expected to mature in the next 10-20 yrs
size: look for bonds with substantial size compared to overall debt issues
A company has a high debt ...
3 factor to keep in mind when looking for "perfect bond" - answer-date of issuance:
look for bonds issued over last 1-2 years
maturity date: bonds expected to mature in the next 10-20 yrs
size: look for bonds with substantial size compared to overall debt issues
A company has a high debt load and is paying off a significant portion of its
principal each year. How do you account for this in a DCF? - answer-Trick question.
You don't account for this at all in an Unlevered DCF, because paying off debt
principal shows up in Cash Flow from Financing on the Cash Flow Statement - but
we only take into account EBIT * (1 - Tax Rate), and then a few items from Cash
Flow from Operations, and then subtract Capital Expenditures to get to Unlevered
Free Cash Flow.
If we were looking at Levered Free Cash Flow, then our interest expense would
decline in future years due to the principal being paid off - the mandatory debt
repayments would also reduce Levered Free Cash Flow (note: some people define
Levered FCF differently, but if you think about it, repaying debt really does reduce
the cash flow that can go to equity investors so it should be subtracted out here).
asset beta = - answer-un-levered beta
Beta - for a private company - answer-for a non public use comparable companies
1. look up the beta for pulically traded comps
2. un-lever each beta
3. take the median or avg of set
4.re-lever that beta based on companies target cap. struct.
why un-lever and relever: comparable companies will have different capital
structures, and therefor dif. levels of risk
Beta - for a public company - answer-a measure of the systematic risk that investors
should be compensated for
for a publicly traded company, find beta by running a beta regression of the
companies stock returns against the returns of the market (usually sp 500) -> find
how volatile the company is relative to the market
Can you have a negative beta? - answer-of course but be ready to explain what a
negative beta implies
CAPM model - answer-defines the expected return on a security (cost of equity) as
the rate of return on a risk-free security + a risk premium
-formula can be extended to include a size premiu.
, cost of capital - answer-the quantification of a company's risk profile can be seen in
their cost of capital
higher cost of reflects more risk (investors demand a higher return for increased
risk)
commonly referred to as the WACC
weighted across debt, equity, and preferred stock
debt it cheaper than equity due to its seniority in the capital structure (debt holders
will get paid first, and therefore require a lower cost) and availability to provide tax
shield
Cost of Equity tells us what kind of return an equity investor can expect for
investing in a given company - but what about dividends? Shouldn't we factor
dividend yield into the formula? - answer-Trick question. Dividend yields are already
factored into Beta, because Beta describes returns in excess of the market as a
whole - and those returns include dividends.
Discounted Cash Flow analysis - answer-intrinsic method of valuation
based on the present value of the company's future cash flows
concept is based on the going concern principle in accounting that firms are
expected to operate into perpetuity
firm total enterprise value = PV of FCFS + PV of terminal value, both discounted
using WACC
PV of FCFs, discounted using WACC + PV of Terminal Value, discounted using WACC
= Implied Total Enterprise Value today
Does a DCF give an enterprise value or equity value? - answer-
equity beta = - answer-levered beta
exit multiple method - answer-basic calculation to approximate company value at
the end of the projection period
FCFT - answer-Final projected FCF
Forecasting Free Cash Flows - answer-project out cash flows 5-10 years -- long
enough to be useful but short enough to be able to predict cash flows with some
accuracy and confidence
project out until cash flows become steady
3-5 years for large companies with stable predictable cash flows
ex: amazon and Microsoft
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