Investment banking interviews can be a nightmare for people that are going for the first time.
A simple Google search will lead you down a rabbit hole of bad interviews or horror stories about interviewers taking their job a little too seriously.
Also, while it may seem like the interview process is unfair, the truth is that it is a little complicated and requires some training before you go for the interview.
In this guide, we will go over a few common interview questions and the most optimal way to answer these questions.
These insider tips promise to get you well equipped and ready to face any investment banking interview.
Most Popular Interview Questions and the Best Answers for Them
The fact of the matter is that investment banking interviews are very different from most other interviews.
Most interviews where there is an emphasis on both you and what you offer in terms of knowledge, investment banking and especially investment banking M&A interviews focus more on your knowledge and experience.
The same is not always the case when it comes to interviews in the line of investment banking.
Investment banking interviews rather focus more on your knowledge and experience.
Therefore, these interviews can be very robotic and often do not have a personal touch to them.
Here are some common investment banking questions that interviewers will ask.
1. Is The Cost of Equity Higher Than The Cost of Debt?
No, equity cost is much higher than that of debt; seeing how the cost of borrowing debt is tax-deductible.
Thanks to the unique properties of borrowing debt, this creates a sort of tax shield.
These equity costs are also higher because equity investors do not receive fixed payments.
2. How Would You Calculate Beta for a Company?
Since calculating raw Betas from a company’s returns is imprecise due to estimation errors, you will instead use industry betas in your calculation.
Be sure to mention these factors when answering the question. You should also mention that the betas of comparable companies are always different due to different leverage, which means that you would first have to unlever the betas.
Once you find the average unlever beta, you will have to relever at the company’s capital structure.
3. How Would You Calculate Equity Costs?
There are multiple methods and models to calculate equity costs. That said, the most common method is the CAPM or the Capital Asset Pricing Model.
The CAPM model is more consistent than most other models and methods.
The formula for calculating CAPM is:
Cost of equity = Risk – free rate + betas × market risk premium
4. Say a Company has a Negative Historical Cash Flow, How Would You Value Them?
Seeing how, due to the negative profitability of the company, most other multiples analyses are meaningless, a DCF valuation will be the most appropriate here.
5. What is an Apt Numerator for a Revenue Multiple?
This is a tricky question that the interviewer asks to see if you know the difference between the enterprise value, equity value, and relevance multiples.
The correct answer to this question is enterprise value. Be careful when they ask you this question, as it is a very tricky one.
6. For DCF Analysis, How Do You Calculate Unlevered Free Cash Flow?
You can simply apply the formula for this calculation. You have to multiply the operating profit (EBIT) with (1 – tax rate), and amortization and depreciation, and deduct capital expenditures and changes in networking capital. This formula helps you work out the free cash flow.
7. How Do You Value a Company?
Now, this is possibly the most crucial question that an interviewer will ask you, and is one of the hardest.
You need to have a deep and basic understanding of primary valuation methodologies.
In the case of evaluating a company, you will have to talk about two valuation methodologies, Relative valuation, and intrinsic value.
You will talk about why you would use any one of these methods to evaluate a company and the effectiveness of each of them.
You should also refer to what they are and how they work, to show the interviewer that you have a good understanding of the subject in question.
8. When Should a Company Consider Issuing Debt Instead of Equity?
There are several reasons why companies would consider issuing debt over equity.
Issuing debt is tax-deductible, which means that it offers the benefit of tax shields. However, this is only if the company has taxable income.
The higher the financial leverage, the higher the return on investment.
Compared to equity, issuing debts is both cheaper and less risky.
Issued debt has a significantly lower weighted cost of capital (WACC) than issued equity.
These are just a few of the many reasons that you can give to justify issuing debt, so you can also get a little creative with your reasons. However, make sure they are right.
9. What Happens to (EPS) if Companies Decide to Buy Back Shares by Issuing Debt?
This can be a very risky strategy in the long run. Here are some of the side effects of buying shares by issuing debt.
By repurchasing shares, the outstanding number of shares greatly reduces, which can increase EPS.
After-tax interest expense increases upon issuance of debt, which can lower EPS.
The net impact of both aforementioned points will determine whether the EPS will decrease or increase.
You should mention the last point about net impact as it shows how much you understand about EPS and repurchasing shares.
10. What Are The Three Financial Statements?
This question is so easy. It is rare they may ask you such a simple question.
Nevertheless, if you are lucky enough to get this question, you should mention the balance sheet, income statement, and cash flow statement.
You should also briefly describe each of these financial statements and their significance.
An income statement gives a company’s revenue and expenditures from which the final net income over a particular time can be determined.
A balance sheet, on the other hand, provides for all the assets that are owned by a company such as cash, inventories, properties, and equipment as well as other valuables.
It also presents a company’s liabilities like debt, equity and payable accounts. However, bear in mind that in a balance sheet, the assets will always be equivalent to (Liabilities + shareholders’ equity).
The third financial statement, cash flow statement reports the resulting change in cash from all activities of a company.
11. What Makes a Good Financial Model?
Building financial models can be quite difficult and require a lot of practice.
Some of the factors that make for good financial models are that everything is clear, and they can handle dynamic scenarios.
These are also not overtly complicated while still being accurate and precise, and can identify the key drivers of a business.
12. What are Some of The Most Common Multiples Used in a Valuation?
You should note that the bulk of investment banking interview questions are drawn from the valuation.
Valuation of a company can be carried out using some of these common multiples;
13. What Do You Understand by Leveraged Buyout?
It is a situation where a particular company acquires or takes over another company through borrowed money, bonds or even by collecting loans.
In this case, the assets owned by the company bought stands as collateral for obtaining a loan.
Other than technical questions, the interviewer can also ask you certain behavioural questions.
These questions are often very basic and are there to test the soft skills and personality of the candidate.
There are no right or wrong answers when it comes to these questions, so
do not stress yourself about the right answer.
What matters most is that you must be conscious of is your composure and the manner with which you answer these questions.
These questions can include:
Do you have any weaknesses? Also, if so, how do you deal with them?
- How would you describe leadership, and can you give examples of both good and bad leadership?
- How do you deal with risk in your life?
- Do you believe in something that other people would otherwise disagree with?
- Which city would you want to live in if money was not a problem, and why is that?
These are all simple questions designed to see how the candidate thinks and how well would they work with other employees in the business.
With the right confidence and state of mind, answering these behavioural questions would be an easy stroll.
It is also essential that you remain relaxed and unperturbed as your gestures and body movements are also put into consideration.
In conclusion, investment banking interviews have been assumed by several people to be harder than most interviews.
However true this may sound, these interviews are not impossible. The real place where you may be faced with some struggle is in the technical questions, so be calm and answer them.
Author’s Bio: Lori Wade is a writer who is interested in a wide range of spheres from business to entrepreneurship and new technologies. If you are interested in investment banking M&A or virtual data room industry, you can find her on Twitter & LinkedIn or find her on other social media. Read and take over Lori’s useful insights!