Breaking into Wall Street Advanced Questions
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1. Explain what a A Deferred Tax Liability (DTL) means that you need to pay additional cash taxes in
Deferred Tax As- the future - you pay the same amount in total taxes over the long-term, but you
set or Deferred paid less in cash taxes in prior years and you need to pay more in the future to
Tax Liability is. make up for it.
How do they usu-
ally get created? A Deferred Tax Asset (DTA) means that you can pay less in cash taxes in the future -
you've paid more in cash taxes in prior years, and now you'll pay less in the future.
Both DTLs and DTAs arise because of temporary differences between what a
company can deduct for cash tax purposes and what they can deduct for book
tax purposes.
You see them most often in these scenarios:
1. When companies record Depreciation differently for book and tax purposes
(i.e. more quickly for tax purposes to save on taxes).
2. When Assets get written up for book, but not tax purposes, in M&A deals.
3. When a company has negative Pre-Tax Income, which results in Net
Operating Losses (NOLs) and an increase in the DTA balance.
4. When pension contributions get recognized differently for book vs. tax
purposes.
2. Wait a minute, This one's subtle, but you frequently see both of these items on the statements
then how can because a company can owe and save on future taxes - for different reasons.
both DTAs and
DTLs exist at the For example, the company might have had negative Pre-Tax Income in early years,
same time on resulting in an NOL balance and a Deferred Tax Asset (which represents the future
a company's Bal- tax savings from using NOLs to reduce taxable income).
ance Sheet? How
can they both
, Breaking into Wall Street Advanced Questions
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owe and save on But the company might also record accelerated Depreciation for tax purposes but
taxes in the fu- straight-line it for book purposes, which would result in a DTL in early years.
ture?
3. How do Income They are similar, but not the same exact idea. Income Taxes Payable and Receivable
Taxes Payable are accrual accounts for taxes that are owed for the current year.
and Income Tax-
es Receivable dif- For example, if a company owes $300 in taxes at the end of each quarter during
fer from DTLs the year, on its monthly financial statements it would increment Income Taxes
and DTAs? Aren't Payable by $100 each month until it pays out everything in the cash at the end of
they the same 3 months, at which point Income Taxes Payable would decrease once again.
concept?
By contrast, DTAs and DTLs tend to be longer-term and arise because of events
that do NOT occur in the normal course of business.
4. Walk me through The simplest way to do it is to assume a percentage growth rate - for example, 15%
how you project in year 1, 12% in year 2, 10% in year 3, and so on, usually decreasing significantly
revenue for a over time.
company.
To be more precise, you could create a bottoms-up build or a tops-down build:
-Bottoms-Up: Start with individual products / customers, estimate the average
sale value or customer value, and then the growth rate in customers / transactions
and customer / transaction values to tie everything together.
-Tops-Down: Start with "big-picture" metrics like overall market size, and then
estimate the company's market share and how that will change in coming years
and multiply to get to their revenue.
Of these two methods, bottoms-up is more common and is taken more seriously
because estimating "big-picture" numbers is almost impossible.
5. Walk me through The simplest method is to make each Income Statement expense a percentage
how you project of revenue and hold it fairly constant, maybe decreasing the percentages slightly
, Breaking into Wall Street Advanced Questions
Study online at https://quizlet.com/_8aoj59
expenses for a (due to economies of scale), over time.
company.
For a more complex method, you could start with each department of a company,
the number of employees in each, the average salary, bonuses, and benefits, and
then make assumptions for those going forward.
Usually you assume that the number of employees is tied to revenue, and then
you assume growth rates for salary, bonuses, benefits, and other metrics.
Cost of Goods Sold should be tied directly to Revenue and each "unit" sold should
incur an expense.
Other items such as rent, Capital Expenditures, and miscellaneous expenses are
linked to the company's internal plans for building expansion plans (if they have
them), or to Revenue in a simpler model.
6. How do you Normally you assume that these are percentages of revenue or expenses, under
project Balance the assumption that they're all linked to the Income Statement:
Sheet items like
Accounts Receiv- -Accounts Receivable: % of Revenue.
able and Ac- -Prepaid Expense: % of Operating Expenses.
crued Expens- -Inventory: % of COGS.
es over several -Deferred Revenue: % of Revenue.
years in a 3-state- -Accounts Payable: % of Operating Expenses.
ment model? -Accrued Expenses: % of Operating Expenses.
Then you either carry the same percentages across in future years or assume slight
increases or decreases depending on the company.
You can also project these metrics using "days," e.g. Accounts Receivable Days =
Accounts Receivable / Revenue * 365, assume that the days required to collect AR
stays relatively the same each year, and calculate the AR number from that.
, Breaking into Wall Street Advanced Questions
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7. How should you You could use several different approaches here:
project Deprecia-
tion and Capital -Simplest: Make each one a % of revenue.
Expenditures?
-Alternative: Make Depreciation a % of revenue, but for CapEx average
several years of previous CapEx, or make it an absolute dollar change (e.g. it
increases by $100 each year) or percentage change (it increases by 2% each
year).
-Complex: Create a PP&E schedule, where you estimate a CapEx increase each year
based on management's plans, and then Depreciate existing PP&E using each
asset's useful life and the straight-line method; also Depreciate new CapEx right
after it's added, using the same approach.
8. Let's take a step In short, no. The complex methods give you similar numbers most of the time -
back... there's you're not using them to get better numbers, but rather to get better support for
usually a "sim- those numbers.
ple" and "com-
plex" way of pro- If you just say, "Revenue grows by 10% per year!" there isn't much evidence to
jecting a com- back up that claim.
pany's financial
But if you create a bottoms-up revenue model by segment, then you can say, "The
statements. Is
10% growth is driven by a 5% price increase in this segment, a 10% increase in
there a real ad-
units sold here, 15% growth in units sold in this geography" and so on.
vantage to us-
ing the complex
method? In oth-
er words, does
it give us better
numbers?
9. What are exam- -Restructuring Charges
ples of non-re- -Goodwill Impairment
curring charges -Asset Write-Downs
Study online at https://quizlet.com/_8aoj59
1. Explain what a A Deferred Tax Liability (DTL) means that you need to pay additional cash taxes in
Deferred Tax As- the future - you pay the same amount in total taxes over the long-term, but you
set or Deferred paid less in cash taxes in prior years and you need to pay more in the future to
Tax Liability is. make up for it.
How do they usu-
ally get created? A Deferred Tax Asset (DTA) means that you can pay less in cash taxes in the future -
you've paid more in cash taxes in prior years, and now you'll pay less in the future.
Both DTLs and DTAs arise because of temporary differences between what a
company can deduct for cash tax purposes and what they can deduct for book
tax purposes.
You see them most often in these scenarios:
1. When companies record Depreciation differently for book and tax purposes
(i.e. more quickly for tax purposes to save on taxes).
2. When Assets get written up for book, but not tax purposes, in M&A deals.
3. When a company has negative Pre-Tax Income, which results in Net
Operating Losses (NOLs) and an increase in the DTA balance.
4. When pension contributions get recognized differently for book vs. tax
purposes.
2. Wait a minute, This one's subtle, but you frequently see both of these items on the statements
then how can because a company can owe and save on future taxes - for different reasons.
both DTAs and
DTLs exist at the For example, the company might have had negative Pre-Tax Income in early years,
same time on resulting in an NOL balance and a Deferred Tax Asset (which represents the future
a company's Bal- tax savings from using NOLs to reduce taxable income).
ance Sheet? How
can they both
, Breaking into Wall Street Advanced Questions
Study online at https://quizlet.com/_8aoj59
owe and save on But the company might also record accelerated Depreciation for tax purposes but
taxes in the fu- straight-line it for book purposes, which would result in a DTL in early years.
ture?
3. How do Income They are similar, but not the same exact idea. Income Taxes Payable and Receivable
Taxes Payable are accrual accounts for taxes that are owed for the current year.
and Income Tax-
es Receivable dif- For example, if a company owes $300 in taxes at the end of each quarter during
fer from DTLs the year, on its monthly financial statements it would increment Income Taxes
and DTAs? Aren't Payable by $100 each month until it pays out everything in the cash at the end of
they the same 3 months, at which point Income Taxes Payable would decrease once again.
concept?
By contrast, DTAs and DTLs tend to be longer-term and arise because of events
that do NOT occur in the normal course of business.
4. Walk me through The simplest way to do it is to assume a percentage growth rate - for example, 15%
how you project in year 1, 12% in year 2, 10% in year 3, and so on, usually decreasing significantly
revenue for a over time.
company.
To be more precise, you could create a bottoms-up build or a tops-down build:
-Bottoms-Up: Start with individual products / customers, estimate the average
sale value or customer value, and then the growth rate in customers / transactions
and customer / transaction values to tie everything together.
-Tops-Down: Start with "big-picture" metrics like overall market size, and then
estimate the company's market share and how that will change in coming years
and multiply to get to their revenue.
Of these two methods, bottoms-up is more common and is taken more seriously
because estimating "big-picture" numbers is almost impossible.
5. Walk me through The simplest method is to make each Income Statement expense a percentage
how you project of revenue and hold it fairly constant, maybe decreasing the percentages slightly
, Breaking into Wall Street Advanced Questions
Study online at https://quizlet.com/_8aoj59
expenses for a (due to economies of scale), over time.
company.
For a more complex method, you could start with each department of a company,
the number of employees in each, the average salary, bonuses, and benefits, and
then make assumptions for those going forward.
Usually you assume that the number of employees is tied to revenue, and then
you assume growth rates for salary, bonuses, benefits, and other metrics.
Cost of Goods Sold should be tied directly to Revenue and each "unit" sold should
incur an expense.
Other items such as rent, Capital Expenditures, and miscellaneous expenses are
linked to the company's internal plans for building expansion plans (if they have
them), or to Revenue in a simpler model.
6. How do you Normally you assume that these are percentages of revenue or expenses, under
project Balance the assumption that they're all linked to the Income Statement:
Sheet items like
Accounts Receiv- -Accounts Receivable: % of Revenue.
able and Ac- -Prepaid Expense: % of Operating Expenses.
crued Expens- -Inventory: % of COGS.
es over several -Deferred Revenue: % of Revenue.
years in a 3-state- -Accounts Payable: % of Operating Expenses.
ment model? -Accrued Expenses: % of Operating Expenses.
Then you either carry the same percentages across in future years or assume slight
increases or decreases depending on the company.
You can also project these metrics using "days," e.g. Accounts Receivable Days =
Accounts Receivable / Revenue * 365, assume that the days required to collect AR
stays relatively the same each year, and calculate the AR number from that.
, Breaking into Wall Street Advanced Questions
Study online at https://quizlet.com/_8aoj59
7. How should you You could use several different approaches here:
project Deprecia-
tion and Capital -Simplest: Make each one a % of revenue.
Expenditures?
-Alternative: Make Depreciation a % of revenue, but for CapEx average
several years of previous CapEx, or make it an absolute dollar change (e.g. it
increases by $100 each year) or percentage change (it increases by 2% each
year).
-Complex: Create a PP&E schedule, where you estimate a CapEx increase each year
based on management's plans, and then Depreciate existing PP&E using each
asset's useful life and the straight-line method; also Depreciate new CapEx right
after it's added, using the same approach.
8. Let's take a step In short, no. The complex methods give you similar numbers most of the time -
back... there's you're not using them to get better numbers, but rather to get better support for
usually a "sim- those numbers.
ple" and "com-
plex" way of pro- If you just say, "Revenue grows by 10% per year!" there isn't much evidence to
jecting a com- back up that claim.
pany's financial
But if you create a bottoms-up revenue model by segment, then you can say, "The
statements. Is
10% growth is driven by a 5% price increase in this segment, a 10% increase in
there a real ad-
units sold here, 15% growth in units sold in this geography" and so on.
vantage to us-
ing the complex
method? In oth-
er words, does
it give us better
numbers?
9. What are exam- -Restructuring Charges
ples of non-re- -Goodwill Impairment
curring charges -Asset Write-Downs
