This is an earnest appeal for advice on getting my finance chops up to speed as I am trying to make up for past laziness and learn what I need to to get out of the hell that is consulting and into finance. Because I have 1y of PE DD for MM/MF under my belt, I have judged that entering MM PE is my best entry point.
The context is that I majored in something fluffy so I could have my 4 year Rumspringa (think art history/education/poetry/underwater basketweaving etc.) and went to a good consulting firm because I didn't want to work the banking hours and now I'm regretting it because I have no idea how finance works and I realize I have to play catch up for my prior laziness.
I've made my way through a couple of guides like multiple expansion and TTS, but I just don't get any of it. I go through the motions and can do things like a paper LBO or struggle through a three statement LBO from scratch, but when it comes to brain teasers you might as well ask me to translate a paragraph to Chinese because I don't actually know what any of it means. I can build the model, but not explain it, because it's gibberish.
I am wondering the best way to make up for lost ground since I now have 2 HHs saying they'll send my resume over to 2 MM funds and I need to start taking this more seriously than just a few hours of modeling a week. I am thinking about hiring a Stern bschool student. I also have a copy of this corporate finance textbook but I don't know if that's a great idea since I potentially need to get up to speed quickly.
tl;dr To be frank I need to get interview ready and although I'm putting in the time and doing the practice models, none of it clicks because of a lack of fundamental knowledge, and I'm soliciting this forum's help as you guys have been wildly helpful in the past.
Thank you much as always.
For example, how do you make assumptions about items on the working capital schedule? In all of the models I've practiced, they've just had you hold constant things like "other current assets" that don't necessarily have a relationship to sales or COGS, but why is that? What kind of information would you need to actually do something other than just hold the number constant?
And what about things like DSO, DIH, and DPO that feed into the cash conversion cycle? How do you know what those projections should look like? Again, most of the practice models just have them held constant.
More than anything this is an example of what I mean by what I'm having trouble learning, things that you need an intuitive sense of how to do. I get that you learn that by practice, but I didn't have the benefit of finance classes and time in banking, so I really need to spend all my free time getting as close to that as possible, and guidance on how to do so from people who actually know this stuff is what I'm looking for.
It sounds strange that given your current job you struggle to figure out the dynamics here. This is exactly an area where a consultant may provide help telling for example that if you hgo for the lean manufacturing introducing the Kanban, your Days of Inventory can drop from X to X/2. Or, with a more financial approach, you can use the model to run a what if analysis to understand how you’ll end up 3 years from now if you manage to reduce your cash conversion cycle by 10 days.
Does this stuff actually interest you?
Yes. I really don't want to get stuck only doing DDs for life. The market modeling side is a limited cross section of a deal, and a much less interesting one that the financial side. It would be nice to do both (and more).
I'm an accounting major so I unfortunately can't offer any advice. But I agree - I tried online videos of financial modeling and I just couldn't get it.
Thanks for the commiseration. Best of luck to you.
huh..the goddamn 3 statement model follows the journal entries..where did you get your acct degree from CUNY Baruch..you must be a total fool
Swing and a miss there, cap'n.
Also, why is there a necessarily a decrease in cash flow if there is an increase in working capital?
As I see it, some people included cash in working capital, some do not. (All the models I have used do not, but after Googling, that seems uncertain).
If cash is included in working capital, couldn't an increase in working capital mean an increase in cash flow?
I understand why if there's no cash, an increase in working capital is a decrease in cash flow.
Never include cash in WC unless you are splitting cash into cash and working cash in which you would include the latter but this is very rarely done. If WC increases it means you have expended more in cash items. For example AP fell and AR increased reflecting you paid down credit owed to for example suppliers but in turn was not able to pass that onto customers.
I see. Thanks a bunch for your answer.
The reason you are seeing cash in some working capital calculations and not others is because in calculations of net working capital, you do ALL current assets (including cash) - all current liabilities.
However, for cash flow purposes, we want to know the net OPERATING working capital. This is calculated via all current assets (excluding cash) - all current liabilities (excluding debt). In short, these are the items relevant to the operational aspect of the business, not the financial (interest-bearing) side of the business.
I thought I understood just fine before, but it's even clearer now. Much appreciated and SB'd.
Assuming we are referencing an LBO here.
1) Cash is not included in NWC calculations, because you initially take cash on the balance sheet and net it against the debt (i.e. net debt) at close. Then, you typically assume you hold a cash figure constant. 2) I'm seeing responses as to not include cash in your NWC calcs (which is right), but I believe you are asking why an increase in NWC is a USE of cash (i.e. decreases cash). Working capital is the "stuff" you need to fund the operations of your business - inventory, receivables, etc. If NWC increases, this implies something such as inventory goes up... so if sales increase you expect to need more inventory to satisfy those sales. If we keep inventory and other NWC accounts constant as a % of sales, then you will need to "use cash" to invest in inventory if you don't have an equal offset in payables that you use to finance the inventory. Hope this helps.
That does help. Thanks for clarifying the concept. Always great to hear another way of explaining so as to understand it a little better.
Working capital is current liabilities - current assets. If working capital increases, it means liabilities increased, or assets decreased. Hence, the business has either lost an asset, or agreed to pay out cash at a later point in time. In both scenarios, the business loses money.
Not quite
Net working capital is non cash current assets less non debt current liabilities. We subtract out the change because if only AR goes up then that’s less cash than you were getting before because more is being put into credit sales meaning you have to collect the cash later. If you were to lay down a greater amount of payables then that’d still be a cash outflow, same if you buy inventory. The reverse is true in that if you collect more receivables, replace less inventory, put more of your purchases on credit then your working capital balance would go down (you have less net value for the things mentioned above) and you would have more cash than the previous period.
The reason it’s non cash/non debt is because this should only be related to short term operational capital. Cash and debt are much more flexible than that and also much more likely to fluctuate so by removing them, we get a good look at what the business needs to keep running. ****
Brilliant. Thank you very much.
Quick modeling question. In a lot of practice models I've done, some people get to FCF by doing Net Income +D&A -Change NWC -CapEx, and some do EBITDA less Capex, Interest, Taxes, and Change NWC. Is one best practice? Will anyone give a shit in an interview?
Those will be the same figure as long as tax rates are the same.
Usually One wouldnt deduct interest as you would be calculating FCFF using EBITDA.
I see. Thanks!
They are both correct answers to levered free cash flow, which you use in an LBO compared to an unlevered free cash flow in a DCF.
You can also use Cash Flow from Operations less Capex. Frankly it doesn't matter, but some people like you to start with EBITDA.
That makes sense, thanks a bunch.
Follow up: I am familiar with a DCF conceptually though having not gone through banking, I'm not specific with the technicals. Why do you use unlevered free cash flow in a DCF but not in an LBO?
The idea behind a DCF is that the value of a company is based upon its ability to generate cash flows for its providers of capital, both debt and equity. Unlevered cash flow (FCFF free cash flow to firm) is the cash available to both debt and equity holders.
An LBO is used for calculating the return to an equity investor. Since equity is subordinate to debt in the capital structure, you have to take the cost of debt into consideration. Levered free cash flow (FCFE free cash flow to equity) is the cash available to equity holders, as it takes interest into consideration.
Here's another one. I'm learning how to model NOLs in a tax schedule. The NOL recognized formula is -min( EBT Pre-NOL, NOL Beginning of Period, NOL Federal Rate * Entry TEV).
I understand taking the minimum of the EBT Pre-NOL and the NOL BOP, but what's up with the NOL Federal Rate * Entry TEV? What does that mean?
bump on this
In the basic WSO LBO models, there is an entry on uses in S&U for cash minimum.
In the multipleexpanion model, there's no entry for cash minimum on S&U.
What's up with that?
All businesses need some amount of cash to conduct their daily operations. (I.e cash in the register at a grocery store). The amount depends on the industry. Typically the amount is modeled as some percentage of sales (ex. 0.5%). Depending on the business or model, the operating cash amount is so small and not material that it does not need to be accounted for in sources & uses. If it’s not stated as part of the model requirements, it does not matter to the bigger picture.
Got it. Thank you. So, I am assuming best practice is if they list the minimum cash amount, I should model it into uses?
On this multiple expansion guide, in this section linked (debt financing), step 3, sub-bullet, that reads "For the revolver fee, multiply the financing fee % by the revolver commitment."
Why do you multiply financing fee by revolver commitment? Shouldn't you multiply commitment fee by revolver commitment?
Why is commitment fee only used in PF interest expense?
Financing fee is a one-time, upfront fee; commitment fee is what you pay on an on-going basis on undrawn facilities sort of like a minimum rate i.e. you pay drawn revolver x interest rate + undrawn revolver x commitment fee.
Thank you very much. That makes perfect sense.
In other words, the "commitment" fee is also commonly known as an Unused Line fee (ULF). I swear the amount of semantics in banking sometimes.. -headbang-
Think you're on the right track trying to get caught up w/ your IBD peers in terms of command of basic modeling skills / knowledge base.
You touched on something that is very important when it comes to financial modeling. Model's are supposed to be tools to help better inform / support decisions during the deal process and are always subjective and purpose driven given the deal type and desired transaction type. Put simply, a good model should always reflect the thought process and thesis of the user. So the fact that you are confused or unsure of what's going on when you're doing your practicing modeling makes sense seeing as you don't know what the broader concept / goal is; especially if the model you're looking at is a working model.
Also, sounds to me that you're maybe biting off more than you can chew with some of your practice and not having the right resources. TTS is pretty much useless for what you want to do other than learning some very basic concepts; that is, those practice models are pretty elementary compared to the type of modeling a PE fund would expect you to do. On the flip side, going through a bunch of live / working LBO model's where the assumptions / rationale isn't known to you is also counterproductive other than just getting some exposure to model mechanics.
GoBuyside used to put out some pretty decent LBO case study prep examples that give you a hypothetical deal and assumptions, and a LBO template to fill out. I might still have a few laying around on my hard drive and could share if that's of interest. Good luck.
anyway you could PM those to me as well? thanks
Stringer, would appreciate if you could PM me those too, if you can dig them up. Thanks!
Would love a PM too if possible at all, I'm in a similar situation!
Hi stringer If you have any of those example models I'd love if you could share please many thanks
Sure. PM me if you'd like them.
When modeling in an interview, if I want to play it safe and not have to debug a broken model and just want to calculate interest based on BoP debt, is that okay, or is it a big red flag to not calculate debt interest based on average of BoP/EoP debt?
If I was reviewing a model test from someone, I'm not sure that I'd care too much but to be safe, why not just keep it linked to beginning debt until the very end when you're done with everything else, and then change it to run off the average?
That is a very smart approach, good thinking. Run it from BoP, switch it to avg at the end, but if it breaks, there’s always a backup. Much appreciated.
I recently interviewed for a middle market private equity fund. The guy before me who took the modeling test said he used certain training on the street formatting macros. He ultimately landed the job and I did not. Anyone know what these may be and how I can get them? Thanks in advance.
Mergers and Inquisitions has an excel formatting YouTube video that you might want to look at for a free resource that includes some macros you can save.
Are there any free resources available to learn basic modeling in a week from scratch?
Multiple Expansion is a good free resource
Thanks!
When calculating Identifiable Intangibles you calculate:
>(Equity Purchase Price - Book Value of Equity) * % Identifiable Intangibles
I could use a thorough explanation of this formula more than anything. At the earlier recommendation in this thread I purchased Investment Banking by Rosenbaum and found the information there insufficient.
Here's what else I am having trouble finding answers on:
Why do you get a deferred tax liability only on Identifiable Intangibles? What makes those special over Unidentifiable Intangibles? (Is "Unidentifiable Intangibles" a term actually used, or is that just Goodwill?)
Why do you subtract Identifiable Intangibles and and Tangible Book Value from Equity Value to get to PF Goodwill? Does that imply that PF Goodwill includes "Unidentifiable Intangibles"?
I have only calculated PF Goodwill as
>Equity Value - Total Assets (excl. Goodwill) + Total Liabilities
So this is a bit confusing. Thanks for any help. I'm getting there...
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