EV Formula for Banks ... ?
I have an interview coming up on monday for a FIG position.
And I got some open questions about valuation:
Obviously it is most appropriate to apply DDM or Equity Comps (such as PE, P/B) for a bank valuation. What is then the enterprise value of a bank? To my understanding the usage of equity oriented approaches is due to the fact that quantifying bank debt is difficult (this is at least what Damodaran says). If so, applying the EV Formula wouldnt make sense at all. Any ideas?
Hm no ideas?
Help would be really appreciated.
Thanks in advance.
Hi galetters,
First post on this website for me!
Banks don't have EV (they have so many different sorts of debt outstanding...) !
They also don't have financing costs like normal companies. Their Interest income (difference between interests perceived and interests paid) is one of the three main components of the Net Banking Income (c. similar to a normal company's EBTDA, I miss the I on purpose) which also comprises Net Trading Income (Gains or Losses on positions held for clients or prop trading) and Net Fee Income (M&A, Private Banking fees or Sales fees minus expenses (like your future bonuses!!!)).
As you said what you look at is Price/Earnings and Price/BookValue & Price/TangibleBookValue ratios.
When you do a DDM, make sure the bank puts aside each year the regulatory capital needed to match the growth of its Risk-weighted Assets (~ balance sheet risk, an assumption of your DDM model). The bank needs c. 8% of its RWAs in Tier 1 Equity (see Basel II and read about Basel III). Then all the extra money after this regulatory capital go to the shareholders' pockets (in the forms in dividends in the model, even if the management can decide to build up its Tier ratio higher than 8%).
And then you get an intrinsic Equity valuation by discounting with the cost of equity (c.20% for Banks).
I hope you will enjoy the wonderful world of FIG! The best bankers by far : the ones who understand how their companies work!
cheers
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