Hi guys:
What financial ratios would you look at to decide what is a firm’s most optimal capital allocation strategy? Is it to compare free cash flow yield per share (for repurchasing stocks), to ROIC (reinvest in business), to the company’s weighted average yield on debt (to pay down debt)? What about dividend yield, do you use that?
Thank you!
| Best Public Markets Gig? ER, MM HF, SM HF, or LO AM? | 13 | 2d | ||
| +42 | How to start a family office (HF rainmaker) | 17 | 22h | |
| +34 | Law to Quant Pivot? | 10 | 1d | |
| +20 | How to destress at Pod HF? | 8 | 2h | |
| +19 | Hedge Fund WLB | 6 | 22h | |
| +19 | People who work at hedge funds, what made you interested initially? | 13 | 10h | |
| +19 | HF Final Round Interview | 4 | 4d | |
| +17 | Most appealing public credit seats out of RX? | 1 | 4d | |
| +16 | good fundamentals, bad chart | 8 | 1d | |
| +16 | Which Funds focus on timing the broad market rather than L/S individual equities? | 10 | 12h |
Career Resources
Get instant access to lessons taught by experienced private equity pros and bulge bracket investment bankers including financial statement modeling, DCF, M&A, LBO, Comps and Excel Modeling.
My 2 cents. A company has 5 options to deploy its FCF. (1) buy back stock. (2) return cash to shareholders through a dividend. (3) Pay down debt. (4) Invest organically through increased capex. (5) Invest inorganically through M&A.
For stock buy backs you just need to have a view on the fair value of the company and calculate the upside from buying back stock. If a company trades at 100/share and you think fair value is 120/share there is 20% upside from deploying capital in a buy-back. I also tend to look at the EBIT/EV yield on this.
For dividends, it's more a case of management having the balls to say that they can't deploy the cash any better than you can so they will return it to you....If the market yield from investing in the S&P 500 is greater than (a) the company's own ROIC (b) the yield from buy-backs (c) there is little or no debt to pay down, and (d) there are no attractive M&A deals to be had, the company should return cash to shareholders via dividends.
For debt repayments I just look at the yield on the debt and compare that to the ROIC and yield on buy-backs.
For organic investment I try to split capex into replacement and growth capex. I assume replacement capex just equals depreciation and all additional capex is growth capex. I then look at how much incremental FCFF is generated from the growth capex. So for example if total capex is 100 and 80 is maintenance capex, that leaves 20 as growth capex. If that 20 investment generates 5 in incremental FCFF, the ROIIC is 25%. There may be a lag between investment and returns so you may want to look at this over rolling 3-5 year periods.
For M&A it's basic accretive/dilutive analysis, typical M&A analysis.
Eos dignissimos reprehenderit repellat maiores magni vel blanditiis. Alias autem nemo adipisci. Ullam aspernatur qui libero autem. Omnis ipsum quia inventore hic est sit inventore accusamus.
Suscipit voluptatem eum magni ut. Autem aut tempora non molestiae atque ratione. Ipsum est libero possimus deleniti.
See All Comments - 100% Free
WSO depends on everyone being able to pitch in when they know something. Unlock with your email and get bonus: 6 financial modeling lessons free ($199 value)
or Unlock with your social account...