As it is interview season we are continuing with how to answer main investment banking interview questions. This is really common question you will come across when interviewing for investment banking positions. To answer it, take a look at the content below, a sample for our IncuBanker online course…
If there were two companies, one that spent $100 on wages and one that spent $100 on capital assets, which would have the higher EV/EBITDA multiple?
The company that paid the wages will have the higher EV/EBITDA
- Think about the relationship between EBITDA and cash flow here
- For the company that spent the money on wages, both EBITDA and cash flow will go down
- For the company that spent money on capex free cash flow will go down, but EBITDA will stay the same
- Since investors ultimately care about cash flow, assuming the companies are essentially the same, investors should pay the same multiple on free cash flow; this implies that the company with the lower EBITDA should trade at a higher EV/EBITDA multiple
- Also, the tax deductibility of wages will also contribute to a higher EV/EBITDA for the wage paying company