PE Interview - If you could see only one financial statement (IS / BS / CFS)...
Hey all,
Recently had an interview with a UMM PE fund... and was asked which of the three statements I'd choose to see if I could only pick one.
Had always thought the answer was CFS (which I mentioned), but was quickly corrected by the interviewer (a senior), who said the answer was IS? I understand they are both important, but had thought that the CFS highlighted all the important nuggets of information on the IS / BS (net profit without cash is useless, and cash flow determines value). Can someone explain to me why IS trumps CFS?
A CFS might show negative cash flow but doesn't imply that the company isn't growing its revenue, improving gross margins, etc. The IS provides how well the core operations are run (or not) and what could be driving that negative cash flow. Not the most elaborate explanation, but I'm sure others will chime in.
However, using an income statement to produce the other two is a different story.
I think you could argue CF or IS. For IS, you get information on margins, you can track revenue growth, etc. You can also get close to operating cash flows since you know net income, depreciation, amortization, etc. the only thing you're missing is capex, but you could estimate a maintenance capex based off the industry. On CF, I think it would be good to know if you're starting from net income or EBITDA…if you're starting from net income, then you can't get to EBITDA without knowing more.
The other comments all give very good thoughts on why IS/ CFS. Adding one thought here: can we say it depends on the stage of the company/ the type of the deal. If it's a growth stage Co., I'd propably look at IS first because revenue and margin growth are the top things at this stage. If it's a buyout of a mature Co., I'd care more about the free cash flow.
It seems a very weird answer to me. Ok you know margin and everything you want, but ultimately in a LBO you have to repay debt, as you can grow the top line and margins as much as you want but if you're FCF negative, your return will be 0x
The answer you were given is just the interviewer’s view, there’s no absolutely right answer. If I were them, I would have said the opposite just to see your reaction when you are faced with a disagreement and how you quickly / effectively defend your position without becoming aggressive or frustrated. Sometimes it’s interview tactics and nothing more.
My answer to that question was always something to the effect of "I know that generally the "correct" answer to this is the CFS for xyz reasons, cash is king, IS has room for management interpretation, etc but personally, when I'm trying to get a quick sense of if a business is interesting or not, I like the IS for xyz reasons. Ideally, I have an IS with EBITDA and from there I can make a good assessment"
As others have said though, it's really a generally open questions. As long as you don't argue for the BS or don't take a super firm stand on why it should only be the IS or something like that and you should be fine.
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