# How to Respond to – “How Do You Value a Company?”

Written by Fmi.Online

One of the most common questions you will be asked during an investment banking or finance interview is “How do you value a company?” The question can seem broad and vague, however, it is useful for various purposes such as tax reporting, raising capital, or selling and acquiring a company.

Hence, it is essential to have a clear understanding of the concept and the ability to articulate it well during the interview.

## How to calculate a company’s value?

A straightforward way to calculate a company’s value can be Assets – Liabilities, which is also known as the Book Value. However, this method doesn’t account for the entirety of a business’s financial health. Hence, there exist a few specific models to assign a value to a company. The four major ones are Multiples, Market Capitalisation, Discounted Cash Flow, and Precedent Transactions.

### 1. Multiples Model:

This approach uses industry-wide financial metrics used by similar companies to value a company. The formula is:

The metrics commonly used are financial ratios namely, Price-to-Earning ratio, Price-to-Sales ratio and Earnings Before Interest, Tax, Depreciation and Amortisation (EBITDA). For example, to calculate the value of company X in the banking sector using this method, one could take the average of say, the EBITDAs of other significant companies in the same industry and multiply that by X’s annual revenue.

This approach rests on the assumption that companies that have similar revenues and earnings drivers should be worth about the same.

### 2. Market Capitalisation Model:

This is one of the simplest methods to calculate a company’s value. Market Value Capitalisation measures a company’s value based on stock price and shares outstanding. The formula is:

The drawback of using market capitalisation is that it is deciphered based only on equity. However, most companies’ capital consists of debt and equity.

### 3. Discounted Cash Flow Model:

Discounted Cash Flow (DCF) is a business valuation technique based on future growth potential. It predicts a company’s value based on what can be the ROI for the company. The formula is:

Here’s what it means:

CF = Cash flow during a given year (can include as many years as you’d like, simply follow the same structure).

The advantage of the DCF method is that it is based on a company’s potential to generate liquid assets. However, the obvious shortcoming of this approach is that is somewhat dependent on the assumptions made about future growth and discount rates. So, it should be used when future cash benefits can be forecasted using reasonably accurate numbers and methods.

### 4. Precedent Transactions Model:

Also called the Transactions approach, this method compares the company in question to other similar businesses that may have been sold or acquired. This analysis aims to estimate the worth of a share of stock in the case of an acquisition.

## What Next?

After you have sharpened your understanding of each method, its benefits and drawbacks, you should be able to exhibit to the interviewer that you can also implement any of these methods if needed.

To do so, you must present examples – either real-time ones, if you have been involved in the valuation of a company in the past or those based on your independent analysis of a company. In the case of the latter, you can base your research on a specific industry instead of trying to understand multiple companies. Then you should use the quantitative methods above to explain how you calculated the worth of the particular company.

## Conclusion

As an aspiring investment banker or financial analyst, you must know how to value a company. At the interview, your job is to demonstrate that you clearly understand the concept and can put it into motion. The best way to do so is through examples of using either the Market Cap, Multiples, Discounted Cash Flow or Precedent Transactions Method. Since you know beforehand that you will be asked this question, you can gain an edge by solidifying your knowledge of it as well as by presenting it coherently.

## More Articles

Investment Banking

### The role of investment bankers in the financial world: what do investment bankers do, and why are they important?

Investment bankers play a critical role in the financial world by helping businesses and governments raise capital, facilitating mergers and acquisitions, and providing strategic advice on corporate restructuring. They are vital to the functioning of the capital markets, and their work helps drive economic growth and stability.

### Preparing For Case Studies And Other Interview Assessments in 2023

At FMI, we understand the importance of interview preparation, including case studies and other assessments. That's why we offer an Interview Preparation Bundle course to help you prepare for your next interview

Investment Banking

### How can you earn a six-figure salary at top investment banking firms without any experience in 2023

To earn a six-figure salary as a fresh investment banker, you need to work hard to get a full-time job at a top investment bank and maximize your bonuses. A strong educational background, relevant skill set, and investment banking internships can help you secure a job.

### How you can get a front-facing role in a top investment bank without any experience in 2023

Learn how to get a front-facing role in a top investment bank without any prior experience. Understand what front desk jobs in finance are and the skills required, get the right qualifications, internships, network, and build the right skill set. Show your willingness and dedication to the role through internships, and make a good impression through networking.

Interview Prep

### How to make a successful career in the derivatives market in 2023

A career in the derivatives market offers job paths of derivatives trader, derivative operations analyst and derivatives risk analyst. Traders need finance/economics degree, financial market knowledge and technical skills. Operations analysts need business administration/accounting degree and derivative knowledge. Risk analysts need risk management experience and education. The career is demanding but offers high compensation and growth opportunities.

### Here are the top investment banking internships you should be aiming for in 2023!

Explore the top investment banking internships for 2023, including JP Morgan, Goldman Sachs, Morgan Stanley, and Bank of America. Learn about the duration, requirements, and responsibilities of these highly competitive internships, as well as the benefits of gaining experience with one of the top investment banks in the world. Discover how an internship with a top investment bank can boost your resume and improve your odds of landing a full-time job in the industry.

Interview Prep

### How an investment banking simulation can train you for your dream career in IB

Simulation replicates the real world to deliver a specific experience in a controlled environment. It prepares candidates to answer case study questions asked during the investment banking interview.

### Here’s what your resume should look like as an investment banking aspirant in 2023

Here's what your resume should look like as an investment banking aspirant | Fmi Online

### Here are the top 3 investment banking interview questions in 2023

Here are the top 3 investment banking interview questions Investment banking interviews are designed to evaluate how fit a candidate is for the leading job role in the field of finance, and therefore should be attended with a decent level of preparation.  Candidates must have a solid understanding of corporate finance fundamentals, and company valuation, […]

Interview Prep

### What you might be lacking in your IB interview prep

Going through the fundamentals of finance, working on DCF calculations, and preparing financial models are some of the more obvious things that an aspiring investment banker prepares for before interviewing for a job at a top investment bank. But what about the subtle nuances that could determine whether you will land a job or not? […]

Our Courses are designed to boost your career

## Launch your career with Fmi’s Learning Pathway

Choose a learning pathway that best meets your needs and ambitions. Not sure which Fmi learning pathway is right for you? Explore our CareerBuddy videos for help and advice.

Investment banking pathway

Monthly Subscription
• 60+ hours
• 9 courses

Investment banking offers many exciting career opportunities for students. From Financial Analysts to Investment Management, and Sales & Trading to a wide range of roles in infrastructure such as IT, Risk or Compliance. This pathway is designed to help you understand the investment banking industry, the roles investment banks are recruiting for, and most importantly, help you to develop the practical skills you need to get into the industry and your preferred role whether this be as part of a school leaver, intern or graduate program.

55,000+ students currently enrolled

Global markets pathway

Monthly Subscription
• 70+ hours
• 10 courses

Global markets provide a range of important products and services to corporates, institutions and governments worldwide from executing trades and managing risk to providing quality research content. A key business area in all investment banks, global markets offers a wide range of career paths for students to consider across all functions and at all levels from school leavers to internships through to graduate programs.

85,000+ students currently enrolled

Asset management pathway

Monthly Subscription
• 50+ hours
• 8 courses

The asset management industry is a global industry worth over 100 trillion US dollars. It plays a crucial role in managing the assets of retail and institutional investors, offering a wide range of exciting careers in doing so. If you’re looking to forge a career in asset management, our Asset management pathway is perfect for you. We help you build the skills all asset managers are looking for and explore everything you need to know about the industry and the wide range of roles available in the sector

100,000+ students currently enrolled