Associate didn’t know how to get to LFCF?
My interviewer asked me how to go from EBITDA to levered free cash flows. I started with EBITDA and then said that I would deduct depreciation and amortization I was immediately stopped questioned why I would do that. My goal is to go from EBITDA to net income by deducting depreciation and amortization ( assuming it’s embedded into Opex) to get to EBIT, then interest expense to get to EBT and lastly tax to get to Net income. Then from that point I would add back depreciation amortization because it’s a non-cash expense, then subtract changes in working capital and capital expenditures, and lastly subtract mandatory amortizations/debt repayments to get to levered free cash flows.
I’m confused as to why he would stop me at EBITDA when the goal of going to levered free cash flow is to take into account of interest expense, and I can’t do that without reducing depreciation amortization.
Is there another way to do this that I’m missing out on? Was I supposed to do this another way?
Deleted - covered in other thread.
So how would you go from EBITDA to LFCF the correct way?
If you already knew what your tax would be. Otherwise, to calculate tax you'll need to subtract D&A given it shields your income. Sounds like OP was just mentally doing the DCF steps
Probably… what would be the more correct way to do this?
You are correct. However, the interviewer might have been looking for the following: EBITDA - Cash Interest - Cash Taxes - CapEx +/- Change in NWC. Or they could have been pushing you to explain why you subtracted D&A (just a test).
Aren’t you forgetting debt repayments/ammorts? Sorry just wondering
You are correct. I did forget that. But also just how I build to cash available for accelerated debt repayment: Begining Cash - Min Cash + LFCF - Mandatory Debt Repayments.
depends. What you doing there is wrong as you are considering P&L taxes in the context of Levered cash flows (should be tax paid, not tax payable)
To be fair it can be done in two ways and it depends whether you are looking at it from a levered DCF or from a DDM standpoint - only difference being, for the purpose of getting to LFCF, normalisation of taxes or just cash taxes as per cash flow statement.
The interviewer is not wrong as you are taking a lot of steps for no reason (ie there s no point in getting down to net income and then adding back as the assumptions you are making on tax is fundamentally incorrect)
Happy to elaborate if not clear
Just for clarity I think I understand what you’re getting at. The interviewer was assuming that I already know the taxes paid in cash derived from the income statement. So for his approach the right way would’ve been EBITDA minus interest Expense a taxes paid minus working capital minus capex and minus debt repayments. That would’ve been the right answer. The way I was looking at was I was assuming that I didn’t know my taxes paid in cash, so I had to make my way down to net income to find the cash paid in tax and the way I had to do that was by reducing depreciation and amortization out of EBITDA or else my tax would’ve been understated because there is a tax shield on depreciation and amortization. Is my thinking correct?
How do I find cash taxes? I’ve never seen a firm disclose what they actually paid to Uncle Sam vs just doing the usual EBIT(1-t), where t is the effective tax rate or EBT(1-t) for levered DCF.
Also, the cash taxes paid are those which include tax deductible interest payments (and include interest income on cash for example), how do I strip the financing effect of taxes saved on interest income when doing EBIT - cash taxes to get to NOPAT?
This method only works if you already have a P&L. So the method that you’re reading in the guides assumes that we don’t know our cash paid in tax so that’s why you start with EBITDA, deduct depreciation and amortization, and then multiply EBIT*(1-T) and then add back Depreciation and Amortization before subtracting WC and CAPEX.
To answer your question , you find your cash taxes on the income statement it’s your tax expense.
Cash taxes are often (but not always) reported as a supplemental disclosure in the cash flow statement.
you are correct that there would be no disclosed way to strip out interest tax shield or whatever.
I don't know man. That's pretty nitty. I would argue that the difference in IS and CFS taxes gets picked up in working capital (at least in an interviewing context for an analyst position). I think in the interviewing context, it's generally okay to be a little loose on what "working capital" is even if the difference in IS and CFS taxes are maybe in a few different CFS line items (again which I would argue is probably fine to call them components of "working capital").
OP probably got dinged because the interviewer was looking for a very specific build. If I had to guess, it'd be something like EBITDA less cash taxes less change in working capital less capex is unlevered FCF. Then back out interest and mandatory amort to get levered FCF. The interviewer probably heard OP deducting a non-cash item from EBITDA and assumed they didn't know what they were talking about.
Is this a BB? Honestly have seen many MBA associates who don’t really know jack shit about finance sneak into BBs.
again, the OP’s answer is not correct - please see above
OP here,
Spoke to some people about this and got feedback.
My method would be correct if we assume the following. We are only given EBITDA, we don’t know our cash paid in tax, we have interest expense and Depreciation and amortization as well as tax rate. We would have to deduct depreciation amortization out of EBITDA due to the tax shield, then interest expense, then the taxes. That way we can find our net income. Then we would add back depreciation amortization (non cash), subtract working capital, capex and debt repayments.
The issue with doing this method is that when you’re starting from EBITDA you’re assuming you already have the taxes paid in cash. EBITDA is also a non-IFRS item - it’s not audible and on the Income statement, we would see EBIT/Operating Income. So for the students here, if you’re starting from EBITDA you’re assuming you already have the taxes paid in cash so you don’t need to do these extra steps. So we can simplify and go about it like this.
EBITDA - interest expense - tax expense - working capital - capex - debt repayments = LFCF 
Keep doing what you are doing slugger
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