14. Financial Statement Modelling

Question 1

Bottom-up analysis

Answer 1

nalysis of an individual company or reportable segments of a company

Question 2

Top-down analysis

Answer 2

macroeconomic variable, often the expected growth rate of nominal GDP

Question 3

growth relative to GDP growth

Answer 3

relationship between GDP and company sales could be modeled as “GDP growth plus x%”

Question 4

market growth and market share

Answer 4

estimate of industry sales (market growth), and then company revenue is estimated as a percentage of industry sales (market share).

Question 5

economies of scale

Answer 5

If the average cost of production decreases as industry sales increase

Question 6

Cost of Goods Sold (COGS)

Answer 6

forecast COGS = (historical COGS / revenue) × (estimate of future revenue)

or

forecast COGS = (1 − gross margin)(estimate of future revenue)

Question 7

Selling General and Administrative Costs (SG&A)

Answer 7

SG&A operating expenses are less sensitive to changes in sales volume
SG&A’s fixed cost component is generally greater than its variable cost component.
Selling and distribution costs, on the other hand, may be more directly related to sales volumes, because it is likely that more salespeople will be hired to support higher firm sales.

Question 8

gross interest expense

Answer 8

the level of (gross) debt and market interest rates.

Question 9

Net debt

Answer 9

gross debt minus cash, cash equivalents, and short-term securities.

Question 10

Net interest expense

Answer 10

gross interest expense minus interest income on cash and short-term debt securities.

Question 11

statutory rate

Answer 11

percentage tax charged in the country where the firm is domiciled.

Question 12

effective tax rate

Answer 12

income tax expense as a percentage of pretax income on the income statement.

Question 13

cash tax rate

Answer 13

cash taxes paid as a percentage of pretax income

Question 14

Overconfidence bias

Answer 14

Having too much faith in one’s own work.

Question 15

Illusion of control bias

Answer 15

A false sense of security in one’s forecasts.

Question 16

Conservatism bias.

Answer 16

Also called anchoring, where the analyst makes only small adjustments to their prior forecasts when new information becomes available.

Question 17

Representativeness bias

Answer 17

tendency to classify data based on past information and known classifications.

Question 18

Confirmation bias.

Answer 18

seek out (or pay attention to) data that affirms their earlier convictions, and to disregard or underestimate information that disputes those opinions.

Question 19

return on invested capital (ROIC)

Answer 19

net operating profit adjusted for taxes (NOPLAT) divided by invested capital (operating assets minus operating liabilities)

Question 20

Porter’s five forces.

Answer 20

threat of substitute products
intensity of industry rivalry
bargaining power of suppliers
bargaining power of customers
threat of new entrants

Question 21

cannibalization rate

Answer 21

Question 22

Normalized earnings

Answer 22

expected mid-cycle earnings or, alternatively, expected earnings when the current (temporary) effects of events or cyclicality are no longer affecting earnings.

Question 23

Inflection points occur due to changes in:

Answer 23

Overall economic environment.
Business cycle stage.
Government regulations.
Technology.