TEST QUESTIONS FOR CHAPTER 1:

COMPARABLE COMPANIES ANALYSIS

1. What is the premise behind comparable companies analysis?
Explanation: Similar companies provide a highly relevant reference
point for valuing a given target due to the fact that they share
key business and financial characteristics, performance
drivers, and risks.
2. Select all that apply. What are some of the key business characteristics to
examine when screening for comparable companies?
a) Sector
b) Return on investment
c) End markets
d) Distribution channels
Answer: A, C, and D
3. Select all that apply. What are some of the key financial characteristics to
examine when screening for comparable companies?
a) Profitability
b) Growth profile
c) Customers
d) Credit profile
Answer: A, B, and D
4. Company A and Company B are peer companies in terms of business
characteristics, but they are currently trading at substantially
different multiples. What discrepancies in financial characteristics
could help explain this situation?
Explanation: Company A could have higher profit margins, higher
levels of projected growth, or less leverage; while Company
B could have experienced management turnover, missed
earnings estimates, or lost a major distributor.

Chapter 1_Comparable Companies Analysis_Q&A

 5. Select all that apply. What is EBITDA and why it is useful for relative
comparison when using enterprise value trading multiples?
a) Earnings before insurance, taxes, depreciation and amortization
b) Earnings before interest, taxes, depreciation and amortization
c) It is free from differences resulting from capital structure, tax regime,
accounting policies, and capital spending
d) It is viewed as the earnings available to equity holders once all of the
company’s obligations have been satisfied
Answer: B and C
6. What are the two most generic and widely used valuation multiples?
a) Enterprise Value-to-EBITDA
b) Total Debt-to-EBITDA
c) Price-to-Earnings (P/E)
d) Equity Value-to-Cash Flow
Answer: A and C
7. Given the assumptions below, calculate fully diluted shares outstanding
using the Treasury Stock Method.
($ in millions, except per share data; shares in millions)
Assumptions
Current Share Price $40.00
Basic Shares Outstanding 200.0
Options Outstanding 10.0
Weighted Average Exercise Price $26.00
Answer:
($ in millions, except per share data; shares in millions)
Calculation of Fully Diluted Shares Using the TSM
Options Proceeds (10.0 x $26.00) $260.0
/ Current Share Price $40.00
Shares Repurchased from Option Proceeds ($260.0 / $40.00) 6.5

Shares from In-the-Money Options 10.0

Less: Shares Repurchased from Option Proceeds (6.5)
Net New Shares from Options (5.0 – 4.5) 3.5
Plus: Basic Shares Outstanding 200.0
Fully Diluted Shares Outstanding (100 + 0.5) 203.5

Chapter 1_Comparable Companies Analysis_Q&A

 8. If a company has an enterprise value of $1,000 million and equity value
of $1,150 million, what is the company’s net debt?
a) $250 million
b) ($250) million
c) $150 million
d) ($150) million
Answer: D
9. Given the assumptions below, calculate equity value and enterprise
value.
($ in millions, except per share data; shares in millions)
Assumptions
Current Share Price $20.00
Fully Diluted Shares Outstanding 50.0
Total Debt 250.0
Preferred Stock 25.0
Noncontrolling Interest 15.0
Cash and Cash Equivalents 50.0
Explanation:
($ in millions, except per share data; shares in millions)
Calculation of Equity Value and Enterprise Value
Current Share Price $20.00
Fully Diluted Shares Outstanding 50.0
Equity Value $1,000.0
Plus: Total Debt 250.0
Plus: Preferred Stock 35.0
Plus: Noncontrolling Interest 15.0
Less: Cash and Cash Equivalents (50.0)
Enterprise Value $1,250.0
10. Given the information below, calculate LTM sales.
($ in millions)
Sales
FYE 12/31/07 $750.0
YTD 9/30/07 600.0
YTD 9/30/08 850.0
Explanation: $750 + 850 – 600 = $1,000

Chapter 1_Comparable Companies Analysis_Q&A

 11. Given the information below, calculate CY12/31/2008E sales.
($ in millions)
Sales
FYE 4/30/2008A $1,000.0
FYE 4/30/2009E 1,150.0
Answer: ($1,000 x 4/12) + ($1,150 x 8/12) = $1,100
12. Which of the following would be typical non-recurring charges?
a) Losses on asset sales
b) Severance from restructuring
c) Inventory write-offs
d) Favorable litigation settlements
Answer: A, B, and C
13. Which of the following would be typical non-recurring benefits?
a) Goodwill impairment
b) Gains from asset sales
c) Facility closure
d) Favorable litigation settlements
Answer: B and D

Chapter 1_Comparable Companies Analysis_Q&A

 14. Given the 2007 income statement data and non-recurring items below,
calculate adjusted EBITDA and net income.
($ in millions)
Income Statement
Reported Adjustments Adjusted
2007 + – 2007
Sales $1,000.0
Cost of Goods Sold 625.0
Gross Profit $375.0
Selling, General & Administrative 230.0
Restructuring Charges 10.0
Operating Income (EBIT) $135.0
Interest Expense 35.0
Pre-tax Income $100.0
Income Taxes @ 40% 40.0
Net Income $60.0

Operating Income (EBIT) $135.0

Depreciation & Amortization 50.0
EBITDA $185.0
Non-recurring items:
$5.0 million pre-tax inventory write-down
$10.0 million pre-tax restructuring charge
Explanation:
($ in millions)
Income Statement
Reported Adjustments Adjusted
2007 + – 2007
Sales $1,000.0 $1,000.0
Cost of Goods Sold 625.0 (5.0) 620.0
Gross Profit $375.0 $380.0
Selling, General & Administrative 230.0 230.0
Restructuring Charges 10.0 (10.0) -
Operating Income (EBIT) $135.0 $150.0
Interest Expense 35.0 35.0
Pre-tax Income $100.0 $115.0
Income Taxes @ 40% 40.0 6.0 46.0
Net Income $60.0 $69.0

Operating Income (EBIT) $135.0 15.0 $150.0

Depreciation & Amortization 50.0 50.0
EBITDA $185.0 $200.0

Chapter 1_Comparable Companies Analysis_Q&A

 15. Using the calculations performed in questions #9 and #14, calculate the
2007 equity value and enterprise value multiples.
Explanation:
Equity Value-to-Net Income = $1,000 million / $69 million = 14.5x
Enterprise Value-to-EBITDA = $1,250 / $200 million = 6.25x
16. Given a 7.0x to 8.0x 2008E EV/EBITDA multiple range and 2008E
EBITDA of $250 million, calculate an implied enterprise value
range.
Explanation: $1,750 million to $2,000 million
17. Higher multiples are typically driven by what characteristics?
Explanation: Growth profile, and, potentially, margins and size.
18. All else being equal, which company would be expected to trade at a
higher multiple—a heavily leveraged company or one with moderate
to low leverage? Why?
Explanation: Moderate to low leverage. Such a company has a lower
risk of financial distress, coupled with a greater ability to
grow both organically and through acquisitions.
19. Why are forward-year multiples typically preferred to LTM multiples in
comparable companies?
Explanation: Investors are more focused on earnings potential than
historical earnings.
20. When would an NFY+1 multiple be used in lieu of an NFY multiple?
Explanation: In the event that investors are more focused on
earnings two years in the future, which may be more
indicative of normalized earnings, (e.g., for cyclical
companies that are perceived to be at a trough or peak).
21. A “Ba1” rating would be a _________ rating by _________.
a) Investment grade, Moody’s
b) Non-investment grade, Moody’s
c) Investment grade, S&P
d) Non-investment grade, S&P
Answer: B

Chapter 1_Comparable Companies Analysis_Q&A

 22. The equivalent rating to Ba1 is:
a) BB
b) BB+
c) Baa1
d) B
Answer: B
23. Why are comparable companies sometimes tiered into different groups?
Explanation: Certain sub-groups are typically more appropriate than
the entire universe for framing valuation (e.g., based on
business model, size, and geography). This tiering requires a
sufficient number of comparable companies to justify
categorization.
24. Select ALL that apply. Assuming the need to start from scratch, what
are the best sources for locating comparable companies for a given
public company?
a) 10-K
b) Equity research reports
c) Fairness opinions for comparable companies—taken from proxy
statements for recently consummated M&A transactions in the
sector
d) 14D-9
Answer: A, B, and C
25. Match the following SEC forms to their names:
10-K Current report
10-Q Annual report
8-K Quarterly report
DEF14A Proxy statement
Answer:
10-K Annual report
10-Q Quarterly report
8-K Current report
DEF14A Proxy statement

Chapter 1_Comparable Companies Analysis_Q&A

 26. What is an “initiating coverage” research report? Why is it important?
Explanation: Research report that is published when a research
analyst begins covering a given company. It tends to be more
comprehensive than normal interim reports. As a result, it is
beneficial to mine this report for financial, market, and
competitive insights.
27. What are First Call and IBES?
Explanation: First Call and IBES provide consensus analyst
estimates for earnings for thousands of publicly-traded
companies. They are the two most common sources used by
the banker for consensus estimates.
28. Why is it important to carefully analyze the individual analyst estimates
within consensus estimates?
Explanation: Certain estimates may be obsolete or not meaningful if
they haven’t been updated for recent announcements,
earnings guidance, or M&A transactions.
29. Why is it important to use companies’ earnings releases prior to the
filing of 10-Qs?
Explanation: Earnings releases are typically released in advance of
the corresponding 10-Q filing and contain sufficient
information to update comparable companies. Certain cash
flow statement data such as D&A, however, may require
waiting for the 10-Q.
30. Why is the share price as a percentage of the 52-week high an important
indicator?
Explanation: It is important for insight on sector trends as well as
relative performance vs. peers.
31. For spreading a comparable company’s financial data, where is D&A
typically sourced?
Explanation: The cash flow statement, and, in some cases, it is
shown on the income statement as a separate line item.
32. Is EBITDA typically reported as a line item on a company’s income
statement in an SEC filing? Explain.
Explanation: No. While it may be disclosed in a footnote or
supplemental materials, EBITDA is a non-GAAP financial
statistic. Therefore, it typically needs to be calculated (e.g.,
EBIT + D&A).

Chapter 1_Comparable Companies Analysis_Q&A

 33. Where is a company’s most recent basic shares outstanding count
typically sourced?
Explanation: 10-K, 10-Q, or proxy statement, whichever is most
recent.
34. Given the following assumptions, calculate net new shares implied by
the convert, using the if-converted method.
($ in millions, except per share data; shares in millions)
Assumptions
Current Share Price $30.00
Convert Amount Outstanding $225.0
Conversion Price $22.50
Explanation:
($ in millions, except per share data; shares in millions)
If-Converted
Amount Outstanding $225.0
/ Conversion Price $22.50
Incremental Shares 10.0

Chapter 1_Comparable Companies Analysis_Q&A

 35. Given the following assumptions, calculate net new shares from
conversion, using Net Share Settlement.
($ in millions, except per share data; shares in millions)
Assumptions
Current Share Price $30.00
Convert Amount Outstanding $225.0
Conversion Price $22.50
Explanation:
($ in millions, except per share data; shares in millions)
Net Share Settlement
Amount Outstanding $225.0
/ Conversion Price $22.50
Incremental Shares 10.0
x Current Share Price $30.00
Total Value of Convert $300.0
Less: Par Value of Amount Outstanding (225.0)
Excess Over Par Value $75.0
/ Current Share Price $30.00
Incremental Shares 2.5
36. Why is enterprise value considered capital structure neutral?
Explanation: Excluding fees and expenses, changes in a company’s
capital structure do not affect its enterprise value. For
example, if a company raises additional debt that is held on
the balance sheet as cash, its enterprise value remains
constant as the new debt is offset by the increase in cash (i.e.,
net debt remains the same).

Chapter 1_Comparable Companies Analysis_Q&A

 37. Given the enterprise value calculation below, show the necessary
adjustments and pro forma amounts if the company issues $100.0
million of equity and uses the proceeds to repay debt.
($ in millions)
Actual Adjustments Pro forma
2007 + - 2007
Equity Value $1,000.0
Plus: Total Debt 250.0
Plus: Preferred Stock 50.0
Plus: Noncontrolling Interest 25.0
Less: Cash and Cash Equivalents (70.0)
Enterprise Value $1,250.0
Explanation:
($ in millions)
Actual Adjustments Pro forma
2007 + - 2007
Equity Value $1,000.0 100.0 $1,100.0
Plus: Total Debt 250.0 (100.0) 150.0
Plus: Preferred Stock 50.0 50.0
Plus: Noncontrolling Interest 25.0 25.0
Less: Cash and Cash Equivalents (70.0) (70.0)
Enterprise Value $1,250.0 $1,250.0
38. What is gross profit and why is gross profit margin an important
operating measure?
Explanation: Gross profit, defined as sales less cost of goods sold
(“COGS”), is the profit earned by a company after subtracting
costs directly related to the production of its products and
services. As such, gross profit margin is a key indicator of
operational efficiency and pricing power, measuring a
company’s profitability for producing its goods and services
before overhead.
39. Why is a company’s growth profile important for understanding
valuation?
Explanation: Growth is a critical value driver and translates directly
into valuation.

Chapter 1_Comparable Companies Analysis_Q&A

 40. Select ALL that apply. What types of metrics are typically used to
measure growth profile?
a) Long-term EPS growth rate
b) Historical EPS CAGRs
c) EBITDA margins
d) YoY sales growth rates
Answer: A, B, and D
41. How is ROE different from dividend yield?
Explanation: ROE measures the return generated on the equity
provided to a company by its shareholders. Dividend yield
measures the annual dividends per share paid by a company
to its shareholders.
42. What are return on investment ratios used for?
Explanation: They are used to measure a company’s ability to
provide earnings (or returns) to its capital providers.
43. Select ALL that apply. Which of the following would be considered
leverage ratios?
a) Senior secured debt-to-EBITDA
b) EBITDA-to-interest expense
c) Total debt-to-EBITDA
d) (EBITDA – capex)-to-interest expense
Answer: A and C
44. Select ALL that apply. Which of the following would be considered
coverage ratios?
a) Senior secured debt-to-EBITDA
b) EBITDA-to-interest expense
c) Total debt-to-EBITDA
d) (EBITDA – capex)-to-interest expense
Answer: B and D

Chapter 1_Comparable Companies Analysis_Q&A

 45. Place the following ratings in order from highest to lowest credit
quality:
B1
Baa2
Baa1
A3
C
Explanation:
A3
Baa1
Baa2
B1
C
46. Why must a company’s financial data be adjusted for non-recurring
items when calculating trading multiples?
Explanation: Failure to do so may lead to the calculation of
misleading ratios and multiples, which, in turn, may produce
a distorted view of valuation (i.e., not indicative).
47. What are some common methods for identifying non-recurring items?
Explanation: Non-recurring items are often described in the MD&A
section and financial footnotes in a company’s public filings
and earnings announcements. These items may be explicitly
described as “non-recurring,” “extraordinary,” “unusual,” or
“one-time.” Therefore, the banker is encouraged to comb
electronic versions of a company’s public filings and earnings
announcements using word searches for these adjectives. In
addition, non-recurring charges or benefits are explicitly
broken out as separate line items on a company’s reported
income statement and/or cash flow statement.
48. In what situations is the P/E ratio less relevant?
Explanation: It is less relevant for companies with little, none, or
negative earnings; more relevant for mature companies with
relatively predictable earnings.

Chapter 1_Comparable Companies Analysis_Q&A

 49. Match the following sector-specific valuation multiples with the
appropriate sector:
Enterprise Value-to-Reserves Media
Enterprise Value-to-EBITDAR Metals & mining
Price-to-Book Value per Share Retail
Enterprise Value-to-Subscriber Financial institutions
Explanation:
Enterprise Value-to-Reserves Metals & mining
Enterprise Value-to-EBITDAR Retail
Price-to-Book Value per Share Financial institutions
Enterprise Value-to-Subscriber Media
50. How are a target company’s “best” comparable companies identified?
Explanation: The banker evaluates business profiles and benchmarks
key financial statistics, ratios, and trading multiples in order
to determine relative ranking.
51. What qualitative factors need to be assessed in analyzing a universe of
comparable companies?
Explanation: In order to truly assess the target’s relative strength, the
banker needs to have a strong understanding of each
comparable company’s story. For example, what are the
reasons for the company’s upward or downward performance
trends? Is the company a market leader or laggard, gaining or
losing market share? Has the company been successful in
delivering upon announced strategic initiatives or meeting
earnings guidance? Has the company announced any recent
M&A transactions or significant ownership/management
changes?
52. What are some of the limitations of comparable companies analysis?
Explanation: Limitations include the absence of relevant
comparables and a potential disconnect from cash flow.

Chapter 1_Comparable Companies Analysis_Q&A