Brian Stoffel on LinkedIn: How Companies Raise Capital Watch these four balance sheet… | 13 comments (2024)

How Companies Raise CapitalWatch these four balance sheet categories:1️⃣ SHORT & LONG-TERM DEBTPRO:- Lowest Cost of Capital- Tax-AdvantagedCON:- Paid Back on a Fixed Schedule- Too Much Debt Makes a Company Fragile2️⃣ CONVERTIBLE DEBTPRO:- Low Cost of Capital- Lower Interest Rate- Tax-Advantaged- Might Not have to be Paid Back with CashCON:- Might have to be Paid Back with Cash- Can be Dilutive when Converted to Equity- Interest Payments3️⃣ PREFERRED STOCKPRO:- Lower Cost of Capital than Common Stock- Dividend Payments can be FlexibleCON:- More Costly than Debt- Must be Paid Before Common Shareholder4️⃣ COMMON STOCK / PAID-IN CAPITALPRO:- Doesn’t Have To Be Paid Back- No Interest Payments- Lowest Risk for CompanyCON:- Dilutive, Especially when Issued at Low Valuations- Expensive if the Business SucceedsWhat's the "best way" for companies to raise capital?By not needing to raise capital at all!In other words, they are funding their own growth through retained earnings.But, when forced to choose, my preferred order is:1: Common Stock2: Convertible Stock3: Short/Long-Term Debt4: Preferred StockWhat's your preferred order?****📌 P.S. Want help understanding how to analyze financial statements?Take my FREE one-week, e-mail based course here: https://lnkd.in/gw2VvuHXIf this post was helpful, please repost ♻️ to make LinkedIn a better platform for all.

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What is Enterprise Value and EV/EBITDA Let's decode it!!!➡ Enterprise value (EV) is a financial term that represents the total value of a company, including both its equity and debt. It is calculated by taking the market value of a company's equity, adding the market value of its debt, and subtracting its cash and cash equivalents.➡ EV/EBITDA is a ratio that compares a company's enterprise value to its earnings before interest, taxes, depreciation, and amortization (EBITDA). It is a commonly used valuation metric in the financial industry, as it provides an indication of how much an investor is paying for the company's operating earnings.➡ Let's say you are considering buying a lemonade stand from your neighbor. The lemonade stand generates $10,000 in annual earnings before interest, taxes, depreciation, and amortization (EBITDA). You know that your neighbor has $5,000 of debt, and the lemonade stand has no cash or cash equivalents.➡ To calculate the enterprise value (EV), you need to add the market value of the equity and the market value of the debt and then subtract the cash and cash equivalents. In this case, the only thing you need to consider is the market value of the equity, which is the price your neighbor is asking for the stand. Let's say your neighbor wants $25,000 for the lemonade stand.EV = Market Value of Equity + Market Value of Debt - Cash and Cash EquivalentsEV = $25,000 + $5,000 - $0EV = $30,000Now you can calculate the EV/EBITDA ratio:EV/EBITDA = Enterprise Value / EBITDAEV/EBITDA = $30,000 / $10,000EV/EBITDA = 3This means that the lemonade stand has an EV/EBITDA ratio of 3, which indicates that you would be paying 3 times the annual EBITDA to buy the entire enterprise.To put it in simple terms, you would have to sell 3 years' worth of lemonade just to recoup your initial investment. If you think the stand has growth potential and you believe you can sell more lemonade in the future, then it might be worth it. However, if you think the stand has peaked and is unlikely to grow much more, you might want to think twice before making the investment. Let me know in the comment section what is the most important ratio in Investing according to you.#finance #work #ebitda

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Optimal Capital Structure-1➡ While talking about cost of capital and valuation, it is worth spending a little time discussing Optimal Capital Structure.✅ The optimal capital structure is achieved by getting the right balance between debt and equity that maximizes the company’s market valuewhile minimizing its cost of capital (partly due to the tax shelter of the debt).✅ Too much debt increases the financial risk of the business, the volatility of earnings and the risk of bankruptcy.✅ This increase in financial risk then tips the balance and increases the WACC and lowers the market value.➡ Two similar firms may have different capital structures.➡ One 20% Debt and the other 80% Debt.➡ The cost of the debt is reduced by the value of the tax shield, the ability to deduct debt interest costs before tax.✅ As debt increases the proportion of (D/V x Rd) x (1-T) increases which lowers the cost of capital, as debt cost is lower and it benefits from the tax shield.➡ WACC = (E/V x Re) + ((D/V x Rd) x (1-T)➡ E = market value of equity➡ V = total value of capital (equity + debt)➡ D/V= % of debt capital➡ Rd = Cost of debt➡ D = Market value of firms debt➡ E/V = % of equity capital➡ Re = Cost of Equity (required rate of return)➡ T = Tax Rate➡ However, as debt increases, the risk of the business increases Re as equity investors require a higher rate of return to compensate for the high leverage and risk of financial distress.✅ This would be reflected in an increase in the company specific beta - from the CAPM.✅ Capital Structure is also a factor of industry and cash flow.✅ Companies with stable cash flows can afford to carry more leverage.✅ Companies with uncertain cash flows are not able to sustain higher debt levels and are more likely to have higher proportions of equity.✅ In an M&A deal, the capital structure of the business post transaction is an important issue.✅ If the acquirer uses cash or debt to finance the deal, the proportion of (net) debt to equity will increase.✅ If the buyer issues new shares to pay for the acquisition, the debt equity ratio will fall.✅ This is an important aspect of financial modelling in M&A deals.✅ The Capital Structure is also at the centre of LBO modelling where Private Equity firms often seek to maximize debt so as to minimize the amount of equity they have to provide.✅ This is not about cost of capital or optimising the capital structure rather simply minimizing the up front cost of the deal for the Private Equity house.✅ You will notice too that many Private Equity Deals are recapitalized.✅ After a few years of successful growth, debt is reduced, cash balances increase.✅ The PE house will re-capitalize the debt side of the balance sheet, taking on new debt.✅ The surplus cash is then distributed to equity stockholders in the form of a dividend.#valuation #equityresearch #investmentbanking #privateequity #mergersandacquisitions

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Cash Flows are critical for a Company’s day-to-day operations. Similarly, Capital Structure which defines the proportion of debt and equity can impact the returns and shareholder value.Debt has its advantages as it may help increase the Return on Equity (ROE) for the companies as well as allow them to grow at a fast pace but at the same time can lead to significant cash outflow(interest + principal payment) at a predetermined time interval. Hence a sound and stable cash flow play an essential role in defining the maximum amount of leverage the Company can sustain. It’s vital to assess the cash flow quality by analysing the impact of various macroeconomic scenarios and changing sector landscape. Overestimating this cash flow can lead to a crisis which can result in a debt trap and finally moving towards insolvency.Increasing debt can result in a lowering of WACC from a valuation perspective. However, as the leverage increases, the cost of debt (due to high leverage) and equity (due to an increased levered Beta)may increase. The target optimal leverage with the lowest WACC can be estimated using the above input.But, Will this optimal WACC provide the highest valuation? Yes, if the increased debt does not impact the Free Cash Flows. Nevertheless, let’s consider a trading company which is growing at a fast pace and has a high asset turnover and unfulfilled demand due to financial constraints imposed due to adherence to optimal WACC. An increase in access to funds can allow the company to generate returns which can add to the Free Cash Flow. Even though this funding will allow the company to deviate from the optimal WACC, it may still add to the valuation.It may not be easy to alter the leverage as different companies tend to have different cash flows and growth opportunities. The Management focuses on maintaining the right balance between debt and equity but then the question arises is what is the right balance. It depends!Companies which are in the high-growth phase may need capital for capex which may result in high leverage. The high debt-to-equity ratio may result in accelerated growth in future. The key point here is their ability to service the loans.Should cash-rich companies avoid debt for their capex and fulfil their financing needs from internal accruals? Maybe Not. These unleveraged companies with strong cash flows have access to cheap loans that can be utilized for long-term capital expenditures. But this will be beneficial only if the excess capital can be invested in avenues where a higher rate of returns can be realised. This extra return can help in boosting the ROE due to the rate differential. Alternatively, the extra cash liquidity can be distributed to the shareholders as dividends or used for buybacks which will lower the Equity and help in increasing the ROE.#cashflowmanagement #capitalstructure #wacc #business #managementconsulting #efficency

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Are Preference Shares Equity or Debt?Read this if you are accounting for funds invested in your company and are unsure if it is debt or equity.This is common in startups.In accounting, a common issue arises with the classification of preference shares.Many businesses incorrectly handle this by:- Treating preference shares solely as equity at all times.- Overlooking their debt-like feature of providing a fixed income.This approach raises critical questions:1. How does misclassification affect your company's financial ratios and reported earnings?2. Are you accounting for the fixed income feature that resembles debt?3. What are the implications for debt covenants and financial flexibility?This confusion can lead to the absurd scenario of treating half of a share as equity and the other half as debt.So, what's the correct way to handle this?Here's the proper approach according to IAS 32 Financial Instruments: Presentation:When issuing preference shares:- Examine their features to determine if they align more with equity or debt.- Reflect this classification correctly in your financial statements.An example:If a company issues preference shares that pay a fixed dividend and have a redemption feature, these shares may lean more towards debt characteristics.Then, during financial reporting:- Disclose the nature of preference shares in the financial notes.- Ensure this classification aligns with financial reporting standards.This approach accurately captures the true nature of preference shares.Properly classifying financial instruments like preference shares is key for accurate financial reporting and compliance.#myCFOng P.S. How you classify preference shares can significantly impact your financial statements and business operations.

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𝗖𝗔𝗣𝗜𝗧𝗔𝗟 𝗠𝗔𝗡𝗔𝗚𝗘𝗠𝗘𝗡𝗧 𝗦𝗨𝗠𝗠𝗔𝗥𝗜𝗭𝗘𝗗:Each type of capital serves a specific purpose in the financial and operational management of a company. Why each is vital for different aspects of a business's health and performance?✔️ 𝗡𝗲𝘁 𝗪𝗼𝗿𝗸𝗶𝗻𝗴 𝗖𝗮𝗽𝗶𝘁𝗮𝗹 (𝗡𝗪𝗖)𝗦𝗵𝗼𝗿𝘁-𝘁𝗲𝗿𝗺 𝗙𝗶𝗻𝗮𝗻𝗰𝗶𝗮𝗹 𝗛𝗲𝗮𝗹𝘁𝗵NWC represents a company's ability to meet its short-term obligations with its short-term assets. It's crucial for ensuring the company has enough liquidity to operate on a day-to-day basis.𝗢𝗽𝗲𝗿𝗮𝘁𝗶𝗼𝗻𝗮𝗹 𝗘𝗳𝗳𝗶𝗰𝗶𝗲𝗻𝗰𝘆Adequate NWC is necessary for smooth operations, such as maintaining inventory, managing supplier payments, and handling customer receivables.✔️ 𝗖𝗮𝗽𝗶𝘁𝗮𝗹 𝗘𝗺𝗽𝗹𝗼𝘆𝗲𝗱𝗟𝗼𝗻𝗴-𝘁𝗲𝗿𝗺 𝗜𝗻𝘃𝗲𝘀𝘁𝗺𝗲𝗻𝘁 𝗠𝗲𝗮𝘀𝘂𝗿𝗲𝗺𝗲𝗻𝘁Capital employed reflects the total capital that a company has used to generate profits. It's a measure of investment made in the business.𝗣𝗲𝗿𝗳𝗼𝗿𝗺𝗮𝗻𝗰𝗲 𝗕𝗲𝗻𝗰𝗵𝗺𝗮𝗿𝗸𝗶𝗻𝗴By comparing returns on capital employed (ROCE) to the capital invested, businesses can gauge how efficiently they are using their resources to generate earnings.✔️ 𝗜𝗻𝘃𝗲𝘀𝘁𝗲𝗱 𝗖𝗮𝗽𝗶𝘁𝗮𝗹𝗪𝗵𝗼𝗹𝗲 𝗖𝗮𝗽𝗶𝘁𝗮𝗹 𝗦𝘁𝗿𝘂𝗰𝘁𝘂𝗿𝗲 𝗔𝗻𝗮𝗹𝘆𝘀𝗶𝘀 Invested capital takes into account both equity and debt financing, providing a comprehensive view of a company's total capital.𝗥𝗲𝘁𝘂𝗿𝗻 𝗼𝗻 𝗜𝗻𝘃𝗲𝘀𝘁𝗺𝗲𝗻𝘁 (𝗥𝗢𝗜) 𝗔𝘀𝘀𝗲𝘀𝘀𝗺𝗲𝗻𝘁 It's used to determine the overall returns a company is generating on the capital provided by both shareholders and debt holders.✔️ 𝗘𝗾𝘂𝗶𝘁𝘆𝗢𝘄𝗻𝗲𝗿𝘀𝗵𝗶𝗽 𝗩𝗮𝗹𝘂𝗲Equity represents the value that would be returned to shareholders if all the assets were liquidated and all the debts were paid off. It reflects the owners' stake in the company.𝗙𝗶𝗻𝗮𝗻𝗰𝗶𝗮𝗹 𝗦𝘁𝗮𝗯𝗶𝗹𝗶𝘁𝘆 𝗮𝗻𝗱 𝗖𝗿𝗲𝗱𝗶𝘁𝘄𝗼𝗿𝘁𝗵𝗶𝗻𝗲𝘀𝘀A strong equity base can enhance a company's stability and its ability to borrow. It indicates the cushion available to absorb losses.𝗖𝗮𝗽𝗶𝘁𝗮𝗹 𝗥𝗮𝗶𝘀𝗶𝗻𝗴Equity can be used to raise new capital through issuing shares, without increasing the company’s debt burden.__________________📌 If you like to develop your skills in 𝗖𝗼𝗿𝗽𝗼𝗿𝗮𝘁𝗲 𝗙𝗶𝗻𝗮𝗻𝗰𝗲, start with these 50+ finance modeling spreadsheets and 35 lessons:👉 https://lnkd.in/dZwwg6Wj#capital

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The Wisdom of Acquiring Depreciating Assets with Interest-Bearable Debt 🚀Most of the time I normally write content related to business finance matters especially related to SMEs.But this time I would like to write about personal finance related matters.I always have question in my mind whether buying a depreciating asset such as cars, motorcycle, and cellular phone using interest bearable debt is a wise decision or not 🤔. As we all know, a depreciating asset loses economic value over time. Cars, for instance, can lose a significant chunk of their value shortly after we bought it 📉.Personally, I think taking on debt to fund a depreciating asset requires a really careful thought 🎗.Here’s several pros and cons that I can think of:Pros:1️⃣ Quick access to assets: With the help of financing, it will allow you to acquire assets without the need for a significant upfront payment. 2️⃣ Preserving your cash: By spreading the cost over time using debt financing, you may preserve your cash for other important aspects of your financial plan.Cons:1️⃣ Financing Costs: Over the life of the debt, the additional cost incurred through interest payments will substantially increase the total amount paid for the asset.2️⃣ Impact of depreciation: The combination of interest payments and depreciation will definitely result in a situation where the total cost of ownership exceeds the initial asset's value.These days I personally choose to buy them using available cash and make buying decision based on what my financial capacity can cover.🤔 What are your thoughts on this?🙏 If you wish to improve your business cash flow management, then please DM me so I can assist in identifying area for improvement to optimize your business cash flow management. Having optimum cash flow management will help sustain your business. #FractionalCFO #SmallMediumEnterprise #SmallBusinessOwner #PersonalFinance

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How well does your company leverage debt to boost performance?Financial leverage, the third factor of the DuPont analysis, measures the extent to which a company is using debt to finance its assets. It is a crucial element of financial management as it determines the company's ability to generate profits and create shareholder value. However, managing financial leverage is not just a matter of taking on more debt, but it involves a careful balancing act between debt and equity financing.One of the key advantages of using debt financing is that it allows companies to expand their operations and invest in growth opportunities without diluting shareholder ownership. But taking on too much debt can also increase the risk of default and bankruptcy, which can have severe consequences for the company and its stakeholders. This is where strategic management of financial leverage comes into play.By optimizing the mix of debt and equity financing, companies can strike a balance between risk and return. The optimal level of financial leverage will depend on a variety of factors, including the industry, the stage of growth, and the company's risk profile. For example, a company in a mature industry with stable cash flows may be able to support higher levels of debt financing compared to a startup in a high-growth industry.In addition to the level of financial leverage, it is also important to consider the cost of capital. Debt financing is typically cheaper than equity financing as lenders require lower rates of return compared to equity investors. However, taking on too much debt can also increase the cost of borrowing and decrease the creditworthiness of the company. Therefore, companies need to carefully evaluate the tradeoffs between debt and equity financing to ensure they are optimizing their cost of capital.Another factor to consider is the impact of financial leverage on the company's credit rating. A higher level of financial leverage can increase the risk of default and decrease the creditworthiness of the company, which can result in higher borrowing costs and reduced access to capital markets. Therefore, companies need to manage their financial leverage in a way that maintains a strong credit rating and ensures continued access to capital.Overall, managing financial leverage is a crucial aspect of financial management that requires a careful balancing act between debt and equity financing. By optimizing the level of financial leverage, evaluating the cost of capital, and maintaining a strong credit rating, companies can achieve sustainable growth and create long-term shareholder value.If you found this post helpful, be sure to put a like and follow our page for more detailed insights on business management and strategy.#financialmanagement #growth #strategy

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Why do Investment Bankers use EV/EBITDA multiple over the P/E to value the target companies?The key reason is that EV/EBITDA values the entire entity regardless of the capital structure of the business. P/E, on the other side, is relevant only for equity investors of the companyEV = Equity Value + Debt - Cash + Minority Interest + Pref EquityAn acquirer will typically buy all the equity (not just common stock) plus assume the debt of the target company minus the cash it gets from the target whereas Price is just the market value of the common equity Now the denominators: EBITDA vs Earnings where Earnings represent the interests of equity investors only it does not look at the cashflow or capital structure decisions of the company as a whole.EBITDA factors in the entity wide decisions whereEarnings Before1) Interest: Interest expense is based on a choice between debt vs equity financing in the company's capital structure. The acquirer might take on additional debt to fund the acquisition, in such situation, looking at a pre-interest cashflow allows the banker to figure out how much additional debt can be supported in the transaction2) Taxes:Taxes are dependent on the company geographies and on the amount of debt sitting on the books (tax shield!). Taxes can be altered depending on the use debt in the transaction, making it a capital structure decision3) Depreciation:A non-cash expense and a capital structure decision. A business may have significant depreciation expense if it owns strong asset base, the acquirer can reduce the depreciation expense by selling the assets and leasing them back (Sale and Lease Back Model!) as a part of the acquisition. Depreciation may not have a close bearing to economic reality as it can be accelerated or modified for tax purposes. The acquirer wants to know what the cash flow looks like irrespective of the own vs lease and tax decisions.4) Amortization:Non-cash expense that gives the depreciating value of the intangible asset. Assets like goodwill from acquisitions, trademarks etc. are generally difficult to value and bear little relevance to understanding the cashflow. Related Posts1) I have the EV/EBITDA multiple then why should I care about the EV/(EBITDA-Capex)? https://lnkd.in/ghz-WGDM2) Understanding "Tax Shield"https://lnkd.in/g9Mqgn-33) Common EBITDA Adjustmentshttps://lnkd.in/gCTaDjkwSpeak to me for guidance on investment banking, career or life! Drop in your details and get a call from me (Link in the comment section).

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Josh Aharonoff, CPA Please don’t forget my favorite Long-Term Debt to Equity ratio! Harold Geneen, long-time chair of ITT-Sheraton in his book “Managing” recommended keeping your LTD/Equity ratio at .33X. And don’t forget all my favorite turnover ratios calculated by taking sales divided by anything (exception Inventory Turnover ratio which is Cost of Goods Sold divided by Average Inventory). For example, Asset Turnover = Sales/Average Total Assets. Great ratio summary here Josh Aharonoff, CPA!

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