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Mohit Bhatnagar
Mohit Bhatnagar
Newsletter: Valuation Insights (Biweekly) • FMVA® • NISM-Series-XV: Research Analyst • Investment Banking • Equity Research • S&P Capital IQ • Python • B.com (H)
Published Sep 20, 2023
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We all know the accounting equation i.e.,
Assets = Liabilities + Equity
As per this equation the Balance sheet should always match, i.e., Assets should always be equal to the Liabilities + Equities.
It is quite often to see the balance sheet in the valuation models, showing what the assets are of a particular company and how they are being financed i.e., whether using debt or equity.
And the debt-equity mix tells us about the beta of that particular company i.e., Equity and Asset Beta which eventually affects the valuation of the company (as it is being used in calculation of Weighted Average Cost of Capital (WACC) - In DCF Valuation method).
Hence, Balance Sheet plays a crucial role in valuation and should satisfy the accounting equation above.
Balance Sheet should always match, but often we get carried away and it got unbalanced. In 99.99% of the cases, it is because any metric is affecting the cash flow. But in real life there are so many metrics in cash flow statement, and we cannot check each and every one of them, Therefore, here are some things to do and some metrics to check if balance sheet is not balancing:
But while building financial model we are not making books of accounts hence we create a revolving credit and in general all the businesses do have a revolving line of credit. If you can clearly identify the line of credit i.e., separate from debt in the annual report of company then make separately adjustment using that amount in the debt schedule or if you can't identify it separately from the debt then adjust the amount in the short-term borrowings as Mohit Bhatnagar did in the financial model he made. Snapshot given below:
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Author: Mohit Bhatnagar, FMVA® #ValuationInsights
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