BIWS 400 Questions with complete solution 2023

BIWS 400 Questions with complete solution 2023Let's say I'm working on an IPO for a client. Can you describe briefly what I would do? You meet with the client and gather basic information - such as their financial details, an industry overview, and who their customers are. You meet with other bankers and the lawyers to draft the S-1 registration statement - which describes the company's business and markets it to investors. You receive some comments from the SEC and keep revising the document until it's acceptable. You spend a few weeks going on a "road show" where you present the company to institutional investors and convince them to invest. The company begins trading on an exchange once you've raised the capital from investors. How do companies select the bankers they work with? Usually based on relationships. When it comes time to do a deal, the company calls different banks it has spoken with and asks them to "pitch" for the business. This is called a "bake-off" and the company selects the "winner" afterward Walk me through the process of a typical sell-side M&A deal. 1. Meet with company, create initial marketing materials like the Executive Summary and Offering Memorandum (OM), and decide on potential buyers. 2. Send out Executive Summary to potential buyers to gauge interest. 3. Send NDAs (Non-Disclosure Agreements) to interested buyers along with more detailed information like the Offering Memorandum, and respond to any follow-up due diligence requests from the buyers. 4. Set a "bid deadline" and solicit written Indications of Interest (IOIs) from buyers. 5. Select which buyers advance to the next round. 6. Continue responding to information requests and setting up due diligence meetings between the company and potential buyers. 7. Set another bid deadline and pick the "winner." 8. Negotiate terms of the Purchase Agreement with the winner and announce the deal. Walk me through the process of a typical buy-side M&A deal. 1. Spend a lot of time upfront doing research on dozens or hundreds of potential acquisition targets, and go through multiple cycles of selection and filtering with the company you're representing. 2. Narrow down the list based on their feedback and decide which ones to approach. 3. Conduct meetings and gauge the receptivity of each potential seller. 4. As discussions with the most likely seller become more serious, conduct more in-depth due diligence and figure out your offer price. 5. Negotiate the price and key terms of the Purchase Agreement and then announce the transaction. Walk me through a debt issuance deal. 1. Meet with the client and gather basic financial, industry, and customer information. 2. Work closely with DCM / Leveraged Finance to develop a debt financing or LBO model for the company and figure out what kind of leverage, coverage ratios, and covenants might be appropriate. 3. Create an investor memorandum describing all of this. 4. Go out to potential debt investors and win commitments from them to finance the deal. What's the difference between DCM and Leveraged Finance? They're similar and there is some overlap but Leveraged Finance is more "modeling-intensive" and does more of the deal execution with industry and M&A groups on LBOs and debt financings. DCM, by contrast, is more closely tied to the markets and tracks trends and relevant data. Explain what a divestiture is. It's when a company decides to sell off a specific division rather than sell the entire company. The process is very similar to the sell-side M&A process, but it tends to be "messier" because you're dealing with a part of one company rather than the whole thing. Creating a "standalone operating model" for the particular division they're selling is extremely important, and the transaction structure and valuation are more complex than they would be for a "plain-vanilla" M&A deal. If you owned a small business and were approached by a larger company about an acquisition, how would you think about the offer, and how would you make a decision on what to do? The key terms to consider would be: 1. Price 2. Form of payment - cash, stock, or debt 3. Future plans for the company vis-à-vis your own plans. Of course, there is much more to an M&A deal than this, but those are the key ones. To make a decision you'd have to weigh each one - there's no "magical" way to decide. You might also point out that if something is particularly important to you - such as retaining a role in the company - then a difference of intentions there could be a "deal-breaker." Let's say you could start any type of business you wanted, and you had $1 million in initial funds. What would you do? You probably want to say that you'd think about some type of niche business with high margins that requires little startup capital ($1 million is not enough to build 10 factories) and ongoing maintenance - those make it harder to turn a profit and sell the business one day. Walk me through the 3 financial statements. "The 3 major financial statements are the Income Statement, Balance Sheet and Cash Flow Statement. The Income Statement gives the company's revenue and expenses, and goes down to Net Income, the final line on the statement. The Balance Sheet shows the company's Assets - its resources - such as Cash, Inventory and PP&E, as well as its Liabilities - such as Debt and Accounts Payable - and Shareholders' Equity. Assets must equal Liabilities plus Shareholders' Equity. The Cash Flow Statement begins with Net Income, adjusts for non-cash expenses and working capital changes, and then lists cash flow from investing and financing activities; at the end, you see the company's net change in cash." Can you give examples of major line items on each of the financial statements? Income Statement: Revenue; Cost of Goods Sold; SG&A (Selling, General & Administrative Expenses); Operating Income; Pretax Income; Net Income. Balance Sheet: Cash; Accounts Receivable; Inventory; Plants, Property & Equipment (PP&E); Accounts Payable; Accrued Expenses; Debt; Shareholders' Equity. Cash Flow Statement: Net Income; Depreciation & Amortization; Stock-Based Compensation; Changes in Operating Assets & Liabilities; Cash Flow From Operations; Capital Expenditures; Cash Flow From Investing; Sale/Purchase of Securities; Dividends Issued; Cash Flow From Financing. How do the 3 statements link together? "To tie the statements together, Net Income from the Income Statement flows into Shareholders' Equity on the Balance Sheet, and into the top line of the Cash Flow Statement. Changes to Balance Sheet items appear as working capital changes on the Cash Flow Statement, and investing and financing activities affect Balance Sheet items such as PP&E, Debt and Shareholders' Equity. The Cash and Shareholders' Equity items on the Balance Sheet act as "plugs," with Cash flowing in from the final line on the Cash Flow Statement." If I were stranded on a desert island, only had 1 statement and I wanted to review the overall health of a company - which statement would I use and why? You would use the Cash Flow Statement because it gives a true picture of how much cash the company is actually generating, independent of all the non-cash expenses you might have. And that's the #1 thing you care about when analyzing the overall financial health of any business - its cash flow. Let's say I could only look at 2 statements to assess a company's prospects - which 2 would I use and why? You would pick the Income Statement and Balance Sheet, because you can create the Cash Flow Statement from both of those (assuming, of course that you have "before" and "after" versions of the Balance Sheet that correspond to the same period the Income Statement is tracking). 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. 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 depends. 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. Note that the end result for accounting questions is the same: Depreciation always reduces Pre-Tax Income. 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. Why is the Income Statement not affected by changes in Inventory? This is a common interview mistake - incorrectly stating that Working Capital changes show up on the Income Statement. In the case of Inventory, the expense is only recorded when the goods associated with it are sold - so if it's just sitting in a warehouse, it does not count as a Cost of Good Sold or Operating Expense until the company manufactures it into a product and sells it. Let's say Apple is buying $100 worth of new iPod factories with debt. How are all 3 statements affected at the start of "Year 1," before anything else happens? At the start of "Year 1," before anything else has happened, there would be no changes on Apple's Income Statement (yet). On the Cash Flow Statement, the additional investment in factories would show up under Cash Flow from Investing as a net reduction in Cash Flow (so Cash Flow is down by $100 so far). And the additional $100 worth of debt raised would show up as an addition to Cash Flow, canceling out the investment activity. So the cash number stays the same. On the Balance Sheet, there is now an additional $100 worth of factories in the Plants, Property & Equipment line, so PP&E is up by $100 and Assets is therefore up by $100. On the other side, debt is up by $100 as well and so both sides balance. Now let's look at a different scenario and assume Apple is ordering $10 of additional iPod inventory, using cash on hand. They order the inventory, but they have not manufactured or sold anything yet - what happens to the 3 statements? No changes to the Income Statement. Cash Flow Statement - Inventory is up by $10, so Cash Flow from Operations decreases by $10. There are no further changes, so overall Cash is down by $10. On the Balance Sheet, Inventory is up by $10 and Cash is down by $10 so the Assets number stays the same and the Balance Sheet remains in balance. Let's say Apple is buying $100 worth of new iPod factories with debt. Now let's go out 1 year, to the start of Year 2. Assume the debt is high-yield so no principal is paid off, and assume an interest rate of 10%. Also assume the factories depreciate at a rate of 10% per year. What happens? After a year has passed, Apple must pay interest expense and must record the depreciation. Operating Income would decrease by $10 due to the 10% depreciation charge each year, and the $10 in additional Interest Expense would decrease the Pre-Tax Income by $20 altogether ($10 from the depreciation and $10 from Interest Expense). Assuming a tax rate of 40%, Net Income would fall by $12. On the Cash Flow Statement, Net Income at the top is down by $12. Depreciation is a non-cash expense, so you add it back and the end result is that Cash Flow from Operations is down by $2. That's the only change on the Cash Flow Statement, so overall Cash is down by $2. On the Balance Sheet, under Assets, Cash is down by $2 and PP&E is down by $10 due to the depreciation, so overall Assets are down by $12. On the other side, since Net Income was down by $12, Shareholders' Equity is also down by $12 and both sides balance. Let's say Apple is buying $100 worth of new iPod factories with debt. At the start of Year 3, the factories all break down and the value of the equipment is written down to $0. The loan must also be paid back now. Walk me through the 3 statements. After 2 years, the value of the factories is now $80 if we go with the 10% depreciation per year assumption. It is this $80 that we will write down in the 3 statements. First, on the Income Statement, the $80 write-down shows up in the Pre-Tax Income line. With a 40% tax rate, Net Income declines by $48. On the Cash Flow Statement, Net Income is down by $48 but the write-down is a non- cash expense, so we add it back - and therefore Cash Flow from Operations increases by $32. There are no changes under Cash Flow from Investing, but under Cash Flow from Financing there is a $100 charge for the loan payback - so Cash Flow from Investing falls by $100. Overall, the Net Change in Cash falls by $68. On the Balance Sheet, Cash is now down by $68 and PP&E is down by $80, so Assets have decreased by $148 altogether. On the other side, Debt is down $100 since it was paid off, and since Net Income was down by $48, Shareholders' Equity is down by $48 as well. Altogether, Liabilities & Shareholders' Equity are down by $148 and both sides balance Now let's say they sell the iPods for revenue of $20, at a cost of $10. Walk me through the 3 statements under this scenario. Income Statement: Revenue is up by $20 and COGS is up by $10, so Gross Profit is up by $10 and Operating Income is up by $10 as well. Assuming a 40% tax rate, Net Income is up by $6. Cash Flow Statement: Net Income at the top is up by $6 and Inventory has decreased by $10 (since we just manufactured the inventory into real iPods), which is a net addition to cash flow - so Cash Flow from Operations is up by $16 overall. These are the only changes on the Cash Flow Statement, so Net Change in Cash is up by $16. On the Balance Sheet, Cash is up by $16 and Inventory is down by $10, so Assets is up by $6 overall. On the other side, Net Income was up by $6 so Shareholders' Equity is up by $6 and both sides balance. 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). Note: Shareholders' equity never turns negative immediately after an LBO - it would only happen following a dividend recap or continued net