How do I properly explain how I worked on this DCF? I was told I did it wrong.
So I interned at a small regional boutique this summer and I am now recruiting from a target school for IB as a rising junior. I have a bullet point on my resume about helping the junior deal team help build a DCF and this analyst I was speaking with at a BB bank (over the phone) asked me if I could go a little more in-depth with my answer. I'll give my answer then explain what he said after: I explained we were working on a sell-side M&A deal for an automotive aftermarket client. I told him we were given their 2017 estimates, but I also had their Actual YTD April monthly P&L statements and monthly B/S's. Based off the info I had, I concisely entered it into Excel to show their YTD April performance, and that being 1/3 of the year, I multiplied all my numbers by 3 to give us our own 2017 estimations. The numbers were very similar to those given to us by management, so we became more confident in their projections. Once I had our 2017 projections, I used revenue growth, expenses, and working capital assumptions given to me by my analyst to project out until 2021, get down to FCF, and then sum them up to its NPV based on the WACC assumption I was given. After I told him this answer, he said that simply multiplying the Actual YTD April numbers by 3 was incorrect and that he was giving me a heads up, and that I should find out the right way to find the full year 2017 assumptions based off the Actual YTD April numbers. When I told him I multiplied by 3 because that's what the analyst wanted (just for a quick look to see if the numbers would be around the same as management's) he still said find the right way to do it and lie in interviews and say that is how you did it. So my question is, if you had actual YTD April numbers from a company based off their monthly balance sheets and income statements, how would you properly create assumptions for your own FY 2017 assumptions?
What comes to mind is if the industry is cyclical, multiplying a 1/3 of the year by three will just enhance the cyclicality and not be an accurate representation of their LTM.
If it was a cyclical company I would agree, however that was not the case with this automotive aftermarket client. This company dealt with truck parts and these truck drivers need their truck parts replaced and their trucks repaired regardless of how the auto industry as a whole is doing. Do you have any insight as to what the correct way to do it may be? Thanks for replying!
Few thoughts.
You aren't accounting for seasonality, if your company was a ski hill carrying that performance into the summer months of 2017 wouldn't make much sense for example.
Also just in general this seems like a bit of a lazy method but it's hard to tell w/o more info. You should be more skeptical on the first few months of 2017 that you used. Maybe there was some sort of material change that you can't expect going forward (i.e. supply/demand swing). You'd probably want to do a bit of a dive on the economics of the company throughout the business cycle, and then make some predictions based on YoY growth, or quarter of quarter growth so far in 2017.
I don't know as I said kind of hard to give suggestions w/o info but yea could have been done a little better.
Would you recommend giving this truthful answer in an interview? Then after giving my answer, explaining that this company did not face many issues with cyclicality, and that I did this only since I was asked to do it this way to give my analyst and associate a quick idea of how the company would perform? Thanks for replying.
Yea it's probably best to go with a truthful answer, you'll buckle under any pushback from the interviewer if you're telling a made up story.
Two points you just made are probably a good way to go and to be fair I doubt most people will give you too rough of a time for your method. If they do like this guy did, just say this is what your analyst wanted b/c time, and then maybe offer some suggestions on how you could've been more thorough if given the chance.
Thanks- that's definitely what I'll do. However the one place where I'm still having difficulty understanding is how I could've been more thorough. If I had the actual YTD numbers through April and this company wasn't really phased by seasonality, what's a better way than simply multiplying those actual numbers by 3? I know it sounds so simple and I might sound foolish right now, but I don't understand what assumptions I would use to create my own FY 2017 assumptions that could be any more accurate and any less of a guess.
Yeah, whoever told you to figure out how to do it correctly, and 'just lie', I agree. Doesn't make sense to give so much wrong detail. It's a little too specific anyway, because you're not really supposed to spill proprietary information, even if it's an interview for your future.
And I don't think he meant, 'lie', per se. It's really just describing the process in a high level. Automotive company, given financials, and did projections... etc.
Do you have any resources where I could look into the proper way to create FY 2017 assumptions based off the April YTD data I had? That way, if I wanted to I could at least tell him how I did it (with less detail), and explain how I corrected myself and now know the right way.
Rosenbaum's Investment Banking textbook. gosteelers35
@iBankedUp" So I'm checking out the chapter on DCF's now, and I read it back in May. And I'm looking where it's talking about determining the key performance drivers for projecting FCF. Couldn't it be fair to say that I used the company's actual performance in the first 1/3 of the year as a key performance driver to determine their performance (and thus their FCF) for the FY 2017? Because they have a loyal customer base and don't face cyclicality issues so it was a good guidance to determine FY performance?
This honestly heavily depends on the type of company you're looking at. If it's a SaaS business with very little churn, you could annualize 4 months YTD and get pretty close to at least a base earnings number that would be accurate (excluding growth). If you're looking at an manufacturing business where there are contracts in place, you could do a bottoms up based on contractual quantities and price. At a high level for an aftermarket auto business, you could look at YTD growth compared to prior year, and use the growth rate and apply that to every month from May to December to account for seasonality month to month while still growing the business. There are "guides" out there that can give you some sense of how to think about projections, but a lot of this is up to your own critical thinking and frankly a lot of company-specific variables. It's more a matter of did you think through it critically rather than taking the lazy way out by doing what you're told.
Having said all of that, people get way too worked up over having the most detailed assumptions going into a forecast. There is such a thing as false precision. And in particularly in a DCF, your first year cash flows don't even impact the overall EV that much.
jobless123 Thanks a lot, this was very helpful.
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