Top Stock Market Interview Questions

So, you are about to give a job for a stock market job and you are scrambling through various topics in finance. Now, in this article I will discuss the top stock market interview questions. Which you will be encounter in the interview in any stock market job.

So, first things first let me give you the bifurcation of this interview question list. Firstly, we will discuss the various topics important for a stock market interview, then I will categorise the interview questions into; Easy, moderate and difficult stock market interview questions.

stock market interview questions
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Important Topics for Stock Market Interview Questions

So, when you are applying for any stock market interview job, the stock market interview questions will be out of the following topics;

  • Firstly, financial statement analysis
  • Secondly, a lot of questions on valuation concepts
  • Thirdly, on DCF valuation

So, majorly speaking there is a very little scope that the stock market interview questions will be outside this ambit.

Financial Statement Analysis: Stock Market Interview Questions

Now, since a high amount of jobs in the stock market are related to equities, hence business. Which means, that a lot of stock market interview questions will be related to the most fundamental concepts. Which is financial statements. So let me give you the list of financial statement analysis related questions;

Take me through the three financial statements?

“The 3 major financial statements are the Income Statement, Balance Sheet and Cash Flow Statement.

  • The Income Statement gives the company’s revenue and expenses, and goes down to Net Income, the final line on the statement.
  • The Balance Sheet shows the company’s Assets – its resources – such as Cash, Inventory and PP&E, as well as its Liabilities – such as Debt and Accounts Payable – and Shareholders’ Equity. Assets must equal Liabilities plus Shareholders’ Equity.
  • The Cash Flow Statement begins with Net Income, adjusts for non-cash expenses and working capital changes. and then lists cash flow from investing and financing activities; at the end, you see the company’s net change in cash.”

Can you give examples of major line items on each of the financial statements?

So, below is the best way of answering this questions;

  • Income Statement: Revenue; Cost of Goods Sold; SG&A (Selling, General & Administrative Expenses); Operating Income; Pretax Income; Net Income.
  • Balance Sheet: Cash; Accounts Receivable; Inventory; Plants, Property & Equipment (PP&E); Accounts Payable; Accrued Expenses; Debt; Shareholders’ Equity.
  • Cash Flow Statement: Net Income; Depreciation & Amortization; Stock-Based Compensation; Changes in Operating Assets & Liabilities; Cash Flow From Operations; Capital Expenditures; Cash Flow From Investing; Sale/Purchase of Securities; Dividends Issued; Cash Flow From Financing.

If I were stranded on a desert island, only had 1 statement and I wanted to review the overall health of a company – which statement would I use and why?

  • You would use the Cash Flow Statement because it gives a true picture of how much cash the company is actually generating, independent of all the non-cash expenses you might have.
  • And that’s the #1 thing you care about when analyzing the overall financial health of any business – its cash flow.

Let’s say I could only look at 2 statements to assess a company’s prospects – which 2 would I use and why?

  • You would pick the Income Statement and Balance Sheet, because you can create the Cash Flow Statement from both of those.
  • (assuming, of course that you have “before” and “after” versions of the Balance Sheet that correspond to the same period the Income Statement is tracking).

Walk me through how Depreciation going up by $10 would affect the statements.

  • Income Statement: Operating Income would decline by $10 and assuming a 40% tax rate, Net Income would go down by $6.
  • Cash Flow Statement: The Net Income at the top goes down by $6, but the $10 Depreciation is a non-cash expense that gets added back, so overall Cash Flow from Operations goes up by $4. There are no changes elsewhere, so the overall Net Change in Cash goes up by $4.
  • Balance Sheet: Plants, Property & Equipment goes down by $10 on the Assets side because of the Depreciation, and Cash is up by $4 from the changes on the Cash Flow Statement.
  • Overall, Assets is down by $6. Since Net Income fell by $6 as well, Shareholders’ Equity on the Liabilities & Shareholders’ Equity side is down by $6 and both sides of the Balance Sheet balance.

If Depreciation is a non-cash expense, why does it affect the cash balance?

Although Depreciation is a non-cash expense, it is tax-deductible. Since taxes are a cash expense, Depreciation affects cash by reducing the amount of taxes you pay.

What happens when Inventory goes up by $10, assuming you pay for it with cash?

No changes to the Income Statement.

On the Cash Flow Statement, Inventory is an asset so that decreases your Cash Flow from Operations – it goes down by $10, as does the Net Change in Cash at the bottom.

So, as you can see that the stock market interview questions at the basic level, is more on effects of transactions.

Equity Valuation Stock Market Interview Questions

Now, moving on to some difficult valuation related stock market interview questions. These questions are again never straight but test your logic.

Why do we look at both Enterprise Value and Equity Value?-stock market interview questions

  • Enterprise Value represents the value of the company that is attributable to all investors;
  • Equity Value only represents the portion available to shareholders (equity investors).
  • You look at both because Equity Value is the number the public-at-large sees, while Enterprise Value represents its true value.

When looking at an acquisition of a company, do you pay more attention to Enterprise or Equity Value?-stock market interview questions

Enterprise Value, because that’s how much an acquirer really “pays” and includes the often mandatory debt repayment

What’s the formula for Enterprise Value?

  • EV = Equity Value + Debt + Preferred Stock + Noncontrolling Interest – Cash
  • This formula does not tell the whole story and can get more complex – see the Advanced Questions. Most of the time you can get away with stating this formula in an interview, though.
  • “Noncontrolling Interest” was formerly known as Minority Interest and some bankers still call it that.

Why do you need to add the Noncontrolling Interest to Enterprise Value?

  • Whenever a company owns over 50% of another company, it is required to report the financial performance of the other company as part of its own performance.
  • So even though it doesn’t own 100%, it reports 100% of the majority-owned subsidiary’s financial performance.

  • In keeping with the “apples-to-apples” theme, you must add the Noncontrolling Interest to get to Enterprise Value so that your numerator and denominator both reflect 100% of the majority-owned subsidiary.

So, once the basic logic based questions on stock market interview questions are done. Then you can expect some hard core discounted cash flow questions.

Walk me through a DCF.

  • First, you project out a company’s financials using assumptions for revenue growth, expenses and Working Capital; then you get down to Free Cash Flow for each year, which you then sum up and discount to a Net Present Value, based on your discount rate – usually the Weighted Average Cost of Capital.
  • Once you have the present value of the Cash Flows, you determine the company’s Terminal Value, using either the Multiples Method or the Gordon Growth Method, and then also discount that back to its Net Present Value using WACC.
  • Finally, you add the two together to determine the company’s Enterprise Value.”

Walk me through how you get from Revenue to Free Cash Flow in the projections.

  • Subtract COGS and Operating Expenses to get to Operating Income (EBIT). Then, multiply by (1 – Tax Rate), add back Depreciation and other non-cash charges, and subtract Capital Expenditures and the change in Working Capital.
  • Note: This gets you to Unlevered Free Cash Flow since you went off EBIT rather than EBT. You should confirm that this is what the interviewer is asking for.

What’s an alternate way to calculate Free Cash Flow aside from taking Net Income, adding back Depreciation, and subtracting Changes in Operating Assets / Liabilities and CapEx?

  • Take Cash Flow From Operations and subtract CapEx and mandatory debt repayments that gets you to Levered Cash Flow.
  • To get to Unlevered Cash Flow, you then need to add back the tax-adjusted Interest Expense and subtract the tax-adjusted Interest Income.

Why do you use 5 or 10 years for DCF projections?

  • That’s usually about as far as you can reasonably predict into the future.
  • Less than 5 years would be too short to be useful, and over 10 years is too difficult to predict for most companies.

How do you calculate WACC?

The formula is: Cost of Equity * (% Equity) + Cost of Debt * (% Debt) * (1 – Tax Rate) + Cost of Preferred * (% Preferred).

In all cases, the percentages refer to how much of the company’s capital structure is taken up by each component.

Final Words on Stock Market Interview Questions

So, if I have to give one advice then the advice would be to practical and passionate. Yes! Now, the reason why I say that is because, you can develop the expertise on stock market interview questions overnight. Hence, it has to be a constant process of evolving your understanding of the market and applying and seeing it for yourself.