Wall Street Prep Flashcards
Net Working Capital Formula
(Working Capital Assets - Working Capital Liabilities). Subtracted from NOPAT bc an increase is a SOURCE of cash i.e. outflow of potential FCF.
NOPAT/EBIAT (Net Operating Profit After Taxes aka unlevered net income)
After-tax operating profit for all investors, including shareholders and debt holders. Frequently used in economic value added (EVA) calculations and is a more accurate look at operating efficiency for leveraged companies. Theoretical income from operations if it had no debt.
Efficient Market Maxim
The average return earned by all investors, weighted by assets owned, in any asset category must equal the average return on the assets that make up that category.
2 problems with NPV
1) it largely ignores an important source of valuation information–the current balance sheet
2) More often than not the terminal value number dominates the overall value and thus becomes central to the investment decision
Franchise Value
Coca-Cola’s markets must be defended by wide moats. In business strategy analysis, barriers to entry exist if and only if an incumbent firm has competitive advantages that a new entrant cannot match. Competitive advantages stem from (1) privileged access to customers, (2) proprietary technology, or (3) economies of scale. These advantages challenge potential entrants with the prospect of being forced to compete at a disadvantage; in most cases they deter entry. Thus, despite the potential attractions of Case C, EPV higher than asset costs, would-be entrants are never going to reap those benefits. The firm within the moat continues to achieve earnings far in excess of the reproduction cost of its assets. The term commonly applied to this excess EPV is “franchise value.” The critical strategic questions associated with Case C are the strength and sustainability of this franchise. An NPV valuation pays little if any attention to the importance of barriers to entry. In the case of Ford, with no sustainable competitive advantage in the foreseeable future, we would distrust valuations that found sustainable EPV greatly exceeding the reproduction costs of the assets.
Unlevered Free Cash Flow Formula
NOPAT/EBIAT + D&A + changes in NWC - Capex
EBIAT formula
EBIT * (1 - tax rate)
Terminal Value
Determines a company’s value into perpetuity beyond a set forecast period—usually five years. The perpetual growth method assumes that a business will generate cash flows at a constant rate forever, while the exit multiple method assumes that a business will be sold.
Enterprise Value (DCF)
Value of the core operations of a firm. In DCF it is the present value of the free cash flows + the present value of the firm as a growing perpetuity. In EBITDA multiple approach it is PV of fcf + EBITDA * comps multiple. Distinct from equity value.
Equity Value of Firm Formula
EV – (Net debt + preferred stock + non-controlling interests)
Net Debt Formula
Debt & Equivalents (debt, non-controlling interests, preferred stock) - non-operating assets (cash & equivalents, other non-operating assets)
non-operating assets
The cash flows related to non-operating assets (i.e. interest income). Value of operating assets reflected in FCF calculation. Subtracted from net debt calculation. Thus cash & equivalents are included in valuation. Also, you do not want to discount these assets to the present in the DCF.
Where to find latest number of shares outstanding
First page of latest filing (10-k or 10-q)
Diluted Shares Outstanding Calculation
Diluted shares should be added to denominator of equity value calculation.
Stock Options
Issued to pay and motivate employees. Gives employees the option to purchase common stock at a given price over an extended period. Dilutive Security.
Warrants
Similar to options, except they are usually issued to lenders, not employees.
Restricted stock and restricted stock units (RSUs)
Shares subject to vesting and, often, other restrictions. Unlike options, there is no exercise price and employees receive the stock free and clear after vesting.
Convertible bonds
Bonds that the company issues that can be converted into common shares upon a certain strike price. The conversion feature allows the corporation an opportunity to obtain equity capital without giving up more ownership control than necessary and/or entice investors to accept lower interest rates than they would normally accept on a straight debt issue.
Convertible preferred stock
Similar to convertible debt, except that the provider of capital usually receives a preferred stock dividends instead of interest payments.
Vested restricted shares
Like options, restricted stock vests over several years, but when they vest, they automatically get included in the actual share count, so there is no dilutive impact
Unvested shares
The most common approach is to include in the diluted share count, logic being that since it is highly likely that unvested restricted stock will in fact vest over the next several years (vesting periods average 1-3 years), it is more conservative to include all unvested restricted shares in the dilutive share count than to exclude.
Convertible Debt Conversion Price
Conversion Price = Convertible debt principal amount outstanding / Common shares debt is convertible into
Mid-cap Size
$800m - $4b
Small-cap Size
$200m - $800m
Micro Cap size
<$200m
Days Sales Outstanding Formula
Enterprise Value Definition
Value of the operating business (operating assets minus operating liabilities). Rather than treating cash as an operating asset, it is netted against debt (net debt).
Reformulation of the balance sheet to show the value of the core enterprise.
EV - net debt = equity value just like Assets - Liabilities = Equity
Operating Assets
Usually all assets except for cash & other investment assets.
Operating liabilities
Usually all liabilities except for debt & debt-like liabilities.
Unlevered DCF Notes
1) Forecast unlevered free cash flows: cash flows that trickle down to both debt and equity providers of capital (EBIAT + D&A +/- WC changes - capex)
2) UFCF takes out operating expenses, capex but not debt related payments (interest expense & principal)
3) appropriate discount rate is WACC
Net Working Capital Assets
Current assets = Accounts Receivable, Inventory, prepaid expenses and other current assets. Increase in this represents a USE of cash and cash outflow on CF statement, typical for growing company.
Net Working Capital Liabilities
Current Liabilities = Accounts Payable, Accrued liabilities, other current liabilities. Increase in liabilities is a SOURCE of cash
Noncontrolling Interests and Net Debt
The value of the business that belongs to NCIs should be included in net debt
Net Debt Equation
