Hard Interview Question (MM)
Was asked this in an interview (CB): You have a widget factory and a mine, to which would you extend financing to?
How would you answer this?
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There is no right answer to this question. The interviewer wants to see your thought process and how you evaluate businesses.
There are many aspects you can approach this, but I would first ask what type of financing we're talking about. Project financing? Equity? Maybe even royalties?
Then I'd evaluate the competitiveness of each business. Widget factory, at first glance, might be more attractive for debt financing - the farther you get from upstream industries (e.g. oil & gas, mining), generally, the more differentiated the products. But maybe the widget factory produces shitty widgets no one really wants anymore. Or perhaps the factory is extremely reliant on a few customers / suppliers.
In contrast, while mines are victims to the vicissitudes of the commodity markets, they can be attractive too. If the mine produces a commodity that is scarce and projected to have high demand in future, it could be interesting. Or if the properties of the mine allow for lower cost operations (e.g. better infrastructure, better geology, located close to export terminal, etc.) And if the mine is owned by a large producer, like Rio Tinto or BHP, could be worth talking about economies of scale or operational expertise.
And lastly, would talk about the returns for each financing. If the interest rate charged is the same for both, yeah the widget factory is probably more attractive. But given the general lack of investor interest in the mining space, you might be able to extend financing to the mine with more attractive terms (higher rates, stricter covenants, etc.)
I don't want to echo the points that have already been said about cash flow, asset values, the need for more information, and the like. I would throw in asking some basic questions about the output of both options. Are the widgets a standardized item, or is it like the iPhone where a new model is released every few years and the previous model is then sold at a reduced price? How commoditized and price sensitive are the goods being mined? What are the economic conditions we're assuming going into this, particularly over the X-Year time horizon of the potential lending agreement?
There are two things I want to add which I don't believe were covered though. The first is what are the minimum breakevens for both options. While this is less important for the widget factory, as there are only two real factors that drive being able to break even, this becomes an issue for the mines. Since output prices fluctuate greatly, knowing what the minimum breakeven price will be can provide you a good sense of what the repayment risks could be. Using oil as an example, Permian Shale, depending on the field, has a breakeven between $32 and $47 USD/BBL. As long as oil stays above 50/BBL, the Permian Base continues to be viable. If it drops below that, then not every oil field will be viable. At Sub-$32 USD/BBL, the entire Permian Base will be losing money. The same concept should apply for mining. This poses a potential risk depending on the price of the goods being produced and needs to be factored into the discussion. At the same time, you also need to tie out that future cash flows for the mine can fluctuate based on pricing more than the widget factory.
The second thing I will add, and it shows that you're thinking in a broader sense, is asking about the value of each relationship. Is this a new business or a pre-existing relationship? Do either opportunity have a real shot at growing into a long term relationship? How much can be levered by relationships across the firm (ex. this is a new business for lending, but one of the choices has a relationship with Sales and Trading or IBD already)? What are the economic conditions faced by both companies? How does that impact their ability to grow in the future? What other services can you provide directly or refer to across the firm? Things like that show you grasp the bigger picture. By being cognizant of the relationship, you are showing that you understand the nuances of the relationship aspect of finance and banking as well as the financial aspects of this deal.