Santikian_FBE421_PMarginsCStructureRisk

Santikian_FBE421_PMarginsCStructureRisk - F BE 421: F...

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FBE 421: Financial Analysis Profit Margins, Cost Structure and Cash Flow Risk
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Questions How do profit margins and the cost structure affect the risk of firms’ cash flows? Do higher profit margins lead to more or less risky cash flows? Do variable costs influence the risk of cash flows? Do fixed costs influence the risk of cash flows?
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Profit Margins and Cost Structure We need to understand how these factors affect the risk of cash flows. This will determine the risk of the business and influence multiples. Important for choosing and analyzing comparables.
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Example Imagine we are analyzing oil companies. Suppose their revenues move together with oil prices (when oil prices increase 1%, their revenues increase 1%). Oil price risk is a major source of risk for companies.
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First Scenario Suppose that the major costs of these companies are fixed – i.e., costs do not change much with oil prices. Company 1
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This note was uploaded on 04/20/2011 for the course FBE 421 taught by Professor Plotts during the Spring '07 term at USC.

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Santikian_FBE421_PMarginsCStructureRisk - F BE 421: F...

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