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Which Company Should Have a Higher Value?

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Comparison-of-Business-and-Academic-WritingNote: We continue our series on investment banking interview questions with this investment banking interview accounting question example. For this question, you’ll need basic accounting knowledge.

The Question

“Company A has $100 of assets while company B has $200 of assets. Which company should have a higher value?”

How to answer this question

On the face of it, we simply don’t have enough information to answer this question. Statistics in a vacuum are meaningless.  It needs to be in comparison to something to have value. We need certain efficiency and profitability ratios to understand how the companies are using assets to generate revenues.

But don’t blow off this type of question – it is a softball that you can turn to your advantage. This is an open-ended question; the interviewer wants you to ask follow up clarifying questions, solicit more information and to showcase your understanding of accounting and financial analysis to be able to say something meaningful about a company.

Sample great answer

You: Given that we only know the total amount of assets for both company A and B and nothing else, it is impossible to say whether A or B is more valuable. Would I be able to ask you some questions about both companies?

Interviewer: Sure

You: Would you be able to tell me what industry these two companies operate in?

Interviewer: They are both consumer products companies.

You: Can I assume that both companies have similar expected asset turnover (revenue/assets), leverage, return on asset, re-investment rates and profit margins?

Interviewer: Yes, let’s assume this is correct.

You: Okay, thank you.  Based on this information, it appears that we are comparing two companies with similar returns on capital, long term growth rates, and costs of capital.  Since these elements are the primary drivers of value for a business, as long as both companies generate returns above their cost of capital, the firm with the larger assets deserves a higher valuation because they are both effectively “converting” their assets into profitability with equal efficiency, given similar risks and expected growth.

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