The Billionaire Handbook

BILLIONAIRE: THE SCIENCE OF BUILDING, SELLING & BUYING PERPETUITIES
1

2
Michael Herlache MBA
Doctor of Business Administration Candidate
VP, M&A at AltQuest Group
Billionaire
The Science of Building, Selling & Buying
Perpetuities

3
For my wife, Svitlana, whom is my treasure.

4
About the Author:
Michael Herlache is the VP of M&A at AltQuest Group, a middle market
boutique investment bank located in Fort Lauderdale, Florida. He lives in his
home in Florida with his wife, Svitlana. Michael has an MBA in Finance from
Texas A&M University and is getting his Doctorate in Business Administration
with a focus on finance. To learn more about AltQuest Group, please go to
www.AltQuest.com.
For those interested in going through a formal billionaire training program
associated with this text, the Billionaire University
(www.UniversityBillionaire.com) course’s syllabus is based upon the content of
this book.

5
Contents
PERPETUITY SCIENCE:
Part I: Perpetuity Methodology
Chapter 1: What is a Perpetuity?
FOUNDATIONS OF VALUATION:
Part II: Tracking Value (Accounting)
Chapter 9: Tracking Value with Accounts
Part III: Analyzing Value (Finance)
Chapter 10: Analyzing Value with Finance
Part IV: Modeling Value
Chapter 11: Finance with Excel
Chapter 12: Financial Statement Modeling
BUILD-SIDE:
Part V: How to Build a Perpetuity?
Chapter 13: How to Build a Benefit Stream?
Chapter 14: How to De-Risk the Benefit Stream?
Chapter 14: The Consumption Process & Growth Hacking
Chapter 15; Reasoning to Platform
Part VI: Perpetuity Analysis
Chapter 16: How to Be a CEO?
Chapter 17: How to Be a Consultant?
Part VII: Perpetuity Management
Chapter 19: Perpetuity Management
Chapter 20: Valuation Methodologies
Chapter 21: Framing Valuation
Chapter 22: The Market for Perpetuities
Chapter 23: Index Building & Benchmarking
Chapter 24: Financial Data Sources
SELL-SIDE:
Part VIII: How to Sell a Perpetuity?

6
Chapter 25: Investment Banking
Chapter 26: How to Become an Investment Banker Methodology
Part IX: The Middle Market
Chapter 27: Middle Market Breakdown
Part X: M&A Multiples
Chapter 28: M&A Multiples
Part XI: Investment Banking Coverage Methodology
Chapter 29: Investment Banking Coverage Methodology
Chapter 37: Index Building & Benchmarking
Chapter 38: Financial Data Sources
Chapter 39: Industry or Sector Newsletter
Chapter 40: Industry or Sector Report
Chapter 41: Rolodex Building
Part XI: M&A Origination Methodology
Chapter 29: M&A Origination Methodology
Part XII: Mandate/Target Matching Methodology
Chapter 30: Mandate/Target Matching Methodology
Part XIII: Deal Structuring
Chapter 31: Deal Structuring
Part XIV: M&A Process
Chapter 32: M&A Process
Part XV: Firm Building & Management
Chapter 33: How to Build a Boutique Investment Bank?
Chapter 34: Running the Boutique Investment Bank
Part XVI: Deliverables & Coverage
Chapter 35: Investment Banking Deliverables
Chapter 42: Adjusted EBITDA
Chapter 43: Valuation
Chapter 44: Teaser
Chapter 45: CIM (Confidential Information Memorandum)
BUY-SIDE:
Part XVII: How to Buy a Perpetuity?
Chapter 46: The Principle of Investing
Chapter 47: How to Be a Warren Buffett?
Chapter 48: The Operating Model
Chapter 49: The Financial Buyer aka Private Equity (LBO)
Chapter 50: The Strategic Buyer aka Corporation (Merger)
Chapter 50: Perpetuity Science & Portfolio Theory

7
Chapter 48: How to Start a LMM Search Fund?
CASES:
Part XVIII: Cases
Chapter 52: Cases

8
Preface
We have all heard about the buy side and the sell side of finance, but who is
actually building the perpetuities. What if there was a third side of finance?
What if there was a build-side, with individuals possessing IB/PE and platform
development talents to use in the building of perpetuities? Shouldn't that be
the logical course of events with individuals taking their knowledge of
valuation and industries and putting them to use in building the next unicorns?
So what would this look like? IB/PE professionals joining startup labs such as
the one I run called Founders Ventures (www.VCFounders.com) to work on
concepts that have a legitimate chance of being a unicorn. Rather than leaving
one's job to join a questionable startup, join a startup lab and be directly
involved in the build-side, even if it part-time. The work of the build-side is
syndication.
Shouldn't we all be working towards getting on the build-side?

9

10
Perpetuity Science
The standard MBA curriculum at most business schools is broken down
along siloed subjects such as accounting, finance, management,
operations, and marketing and attempts to teach students how to be a
mid-level manager at a large corporation for the rest of their lives.
Unfortunately, these jobs are mostly gone, having been shipped
overseas or automated. This MBA curriculum is thus outdated and not
appropriate for the 21st century when most individuals will have multiple
jobs and roles throughout their careers and lives.
The more appropriate field of study which has yet to make it to business
schools is known as Perpetuity Science. Perpetuity Science is the body of
knowledge, methodologies, and optimization models related to the
building, selling, and buying of perpetuities. It explains how perpetuities

11
can be built, managed and exited from to create wealth. Perpetuity
science is a paradigm shift in business and finance education in that it
replaces the siloed subjects traditionally taught in undergraduate and
graduate business schools with a holistic methodology that integrates
industry and the capital markets into one framework.
Instead of a disparate business taxonomy along the lines of economics,
finance, accounting, marketing, etc., we have an initial taxonomy broken
down in relation to the perpetuity, namely:
Build-side – the building of perpetuities (entrepreneurs, corporations)
Sell-side – the selling of perpetuities (investment bankers, wall street)
Buy-side – the buying of perpetuities (private equity, corporate M&A)
Within each of the three, we have various methodologies and
optimization models that may touch on various subjects such as
accounting, finance, economics. By starting with perpetuity science
however, the student can better synthesize the various moving parts of
industry and the capital markets.
When first learning about industry and the capital markets, one should
first understand the nature of the perpetuity, which is the basis for
industry & the capital markets. The perpetuity can be modeled with the
following formula:
Perpetuity value = CF / r
Where CF represents the benefit stream associated with the perpetuity
and r represents the discount rate associated with the perpetuity’s risk of
receiving the benefit stream.

12
After understanding the nature of the perpetuity in general, we can then
analyze the nature of the perpetuity within each industry. The nature of
the CF, r, value chain, and value being offered will be different. We
investigate each industry according to these variables by building an
index for each industry and then sub-sector within the industry.
After building the index and sub-sector indices we can then begin
analyzing the value chain and leaders in each part of the value chain. We
then build financial statement models for the leaders in each section of
the value chain and understand the drivers of performance.

13
We analyze each leader or target in relation to the phases of perpetuity in
terms of where they are now and the next steps that they can take to move to
the next phase. In doing so, one begins to think in terms of being a CEO. The
CEO’s role is to bring the company/opportunity through the stages of the
perpetuity by building recurring benefit streams (i.e. cash flows) and at the
same time de-risking those benefit streams. In doing so, the valuation of the
perpetuity moves from backward looking towards forward looking and the
valuation is thus maximized (based upon a multiple of future earnings).
The CEO should thus be familiar with Perpetuity Science and the phases of the
perpetuity.
As the perpetuity changes, the formula for valuing the perpetuity changes as
well. There are five phases of perpetuity building. As we move through the
phases, the role of the owner of the perpetuity becomes more passive and the
valuation becomes larger due to size of EBITDA increasing, EBITDA multiple
increasing, and the discount rate decreasing. The perpetuity becomes less
dependent on the owner to exist and run as an organizational structure is
formed coinciding with the division of labor, processes are automated, and
revenue becomes recurring.

14
Phases of the Perpetuity:
I. Syndication (Getting to PMT)
II. Job Shop (From PMT1 to PMT2, PMT3, etc)
III. Perpetuity (From PMTi to CF/r)
IV. Growing Perpetuity (From CF/r to CF/r– g)
V. Diversified (Perpetuity 1 + Perpetuity 2)
The goal of Perpetuity Science is the building, growing, management, exit and
buying of perpetuities, so ultimately, while learning about Perpetuity Science
itself, we are also actively looking for:
1. Perpetuities to create
2. How to advance a perpetuity to the next phase
3. Perpetuities that should be exited from
4. Perpetuities that should be purchased

15
Ultimately, Perpetuity Science transforms the individual from a one-
dimensional functional worker into a multi-dimensional value-creator
able to execute on either of the three sides of the perpetuity; build side,
sell side, or buy side.
The Perpetuity Scientist vs. The Functional Specialist
The Perpetuity Scientist builds assets that generate passive benefits whereas
the functional specialist uses labor to generate active benefits. The quality of
life of the perpetuity scientist is thus higher than the functional specialist. It is
the perpetuity scientist that drives the primary value with functional specialists
simply serving a role in the process of building or operating a perpetuity.
The Perpetuity Scientist has the three capabilities associated with the key
question of each side of the perpetuity:
Build-Side:
Key Question: How to Build a Perpetuity?
Capability: The capability to build a perpetuity
Sell-Side:
Key Question: How to Sell a Perpetuity?

16
Capability: The capability to sell a perpetuity
Buy-Side:
Key Question: How to Buy a Perpetuity?
Capability: The capability to buy a perpetuity
Capabilities that each business student should have are associated with
the 3 key questions of Perpetuity Science:
Perpetuity Science:

17
I. Build side: How to build a perpetuity?
II. Sell side: How to sell a perpetuity?
III. Buy side: How to buy a perpetuity?
The key questions are associated with capabilities to be built learning
perpetuity science.

18

19
From this methodology, Investment Banking University has built a body
of knowledge which turned into the course, How to Become an
Investment Banker. The book, Investment Banking, is meant to
accompany the course which can be taken online, in the weekend
workshop, or in the month-long training.
When asking the key question, “How to Become an Investment Banker?”,
we are really asking four questions simultaneously:
1. How to use finance to model the concept in a perpetuity
format?
2. How to physically build the perpetuity?
3. How to sell/exit the perpetuity?
4. How to buy a perpetuity?
For each question, Investment Banking University has developed
proprietary methodologies which are the basis for building a capability
which is the ultimate answer to the question.
When the individual implements these models and builds the capabilities in
finance, the build side, the sell side and the buy side, one may claim to have
become an investment banker.

20
Part I:
Perpetuity Methodology
Consistent with Perpetuity Science, the Perpetuity Methodology is
broken down between the three aspects of the perpetuity and also has
the foundations of valuation to tie it all together:

21
Chapter 1:
What is a Perpetuity?
Nature does not provide for man, so he must use reason to obtain value.
Since his task is both survival and pleasure, man must use philosophy
and science to determine what is valuable and then to build something
to obtain said value. That which he builds should not require the same
work continually to operate; this is the basis for the perpetuity. A
perpetuity is an asset that generates a benefit stream continuously into
the future. Perpetuity is the basis for intrinsic value.
All of mans progress is towards the creation of assets that add value on
behalf of the human on a continuous basis into the future without the
human having to replicate previous work to receive benefits. This
phenomena is referred to as the perpetuity. This speaks to the
advancement from the active benefit stream towards the passive benefit
stream (perpetuity). The perpetuity is both a philosophical and scientific
phenomena which embodies mans progress in both philosophy and
science.
Perpetuity can thus be broken down into:
1. Perpetuity Philosophy
2. Perpetuity Science
For the purposes of this book, we will be focusing on Perpetuity Science.

22
Standard of Living: Perpetuities
The Goal
To increase standard of living without sacrificing quality of life.
How to Get the Goal
In order to increase standard of living without sacrificing quality of life,
one is to build, sell or buy perpetuities.
Perpetuity
Perpetuities increase standard of living without sacrificing quality of life
by possessing recurring revenue and automated work processes to
achieve the revenue.
I. Building Perpetuities
The building of perpetuities is known as being on the build-side;
commonly referred to as entrepreneurship or corporations.
II. Buying Perpetuities
The buying of perpetuities is known as investment or being on the buy-
side. The players here are Private Equity (PE) or Corporate M&A
Departments for major corporations.
III. Selling Perpetuities
The selling of perpetuities is known as the sell-side. The players here are
investment bankers (Wall Street).
The Lab of Perpetuities
The experimentation and optimization tool of finance is known as Excel.
Excel
Is the scientific computational tool of finance to aid us in the modeling
and valuation of perpetuities.
Demand for Perpetuities
There is always demand for perpetuities and especially by institutional
investors which means that the market for corporate control more closely

23
mirrors the DCF (intrinsic value) of the perpetuity (corporation). Institutional
investors can pay higher multiples in order to realize returns over longer
periods of time.
Types of Perpetuities
Perpetuities can be created from companies that possess some aspect of
recurring revenue and automated work processes associated with product
creation.
At a high level, types of perpetuities include:
I. Commodity
a. Durables
b. Non-durables
II. Platform
a. Digital
b. Physical
III. Content
a. Educational
b. Entertainment
IV. Service
a. Analysis
b. Allocation
c. Engineering
d. Logistics
e. Management
f. Advocacy
g. Relationship
V. Infrastructure
a. Private
i. Real estate
b. Public
From the types of perpetuities, when applied to the main value themes of
human existence we arrive at industries associated with the perpetuities
(according to Aswath Damodaran at NYU):

24

25
When looking at the different industries in which perpetuities are located, it
becomes helpful to understand the nature of the perpetuities including risk (as
represented by the discount rate in the perpetuity formula), return, growth,
margins, multiples, and cash flow:
Risk (discount rate) on the following page:

26
Return:

27
Growth:

28
Margins (Cash flow):

29
Multiples:

30

31
Business: The Science of the Perpetuity
Introduction to Business
Business is the science of the perpetuity
Perpetuity value = CF / Discount rate
As you can see we can increase value by increasing CF (increasing revenues,
decreasing COGS, SG&A) or decreasing the discount rate.
The Corporation’s Goal
1. Become a perpetuity - as characterized by recurring revenue as automated
work processes.
2. Become a growing perpetuity
Value of growing perpetuity = CF / r – g
g decreases the discount rate
One should make the distinction between a perpetuity and a commodity. A
commodity is associated with a single benefit (cash flow) or a finite benefit
stream, whereas the benefit stream of a perpetuity is continuous into the
future.
What is Intrinsic Value?
Something is intrinsically valuable inasmuch as it is a perpetuity.
Perpetuity provides certainty that the benefit stream will be recurring in
the future and is thus, the basis for intrinsic value. Perpetuities allow us
to improve our standard of living while not sacrificing quality of life by
continually dealing with a problem/opportunity in nature and yielding
passive benefits.
How to Become Wealthy?

32
The secret that the wealthy know and the middle class is unaware of is
the perpetuity. A perpetuity is an asset that generates a benefit stream
continuously into the future. This yields passive benefits rather than
active benefits of which the middle class works for. The wealthy know
Perpetuity Science which is the science of building, selling & buying
perpetuities. There are three sides to the perpetuity:
1. Build-Side - How to Build a Perpetuity? (entrepreneurs,
corporations)
a. How to Build a Benefit Stream?
i. Case for Value Perpetuity and Financial
Perpetuity
ii. MVP
iii. Value Perpetuity
iv. Financial Perpetuity
v. Growing Financial Perpetuity
vi. Diversified
b. How to De-Risk the Benefit Stream?
i. Customer Concentration
ii. Owner Dependence
iii. Recurring Revenue
2. Sell-Side - How to Sell a Perpetuity? (investment bankers,
wall street)
3. Buy-Side - How to Buy a Perpetuity? (private equity,
corporate M&A)
Ultimately, the wealthy teach their children how to be 21st century
perpetuity scientists rather than 20th century functional specialists that
will remain in the middle class.
In terms of order, the process is usually:
1. Begin on the build-side building a perpetuity which will take 3
to 5 years (initiate coverage and syndicate within a vertical &
sub-vertical)

33
2. Enter the sell-side and begin in investment banking after
university/business school (within existing investment bank or
start own boutique investment bank)
3. From the sell-side, take advantage of strong opportunities
and leverage this into a LMM search fund

34
FOUNDATIONS OF
VALUATION
In order to understand the role and work of the investment banker, we need to
first have a strong understanding of the foundations of valuation. This helps us
to understand why it is that the investment banking industry exists and where
investment bankers fit into the bigger picture.

35
Part V:
Tracking Value
(Accounting)
As a perpetuity is built, it becomes necessary to track the financial existence of
the perpetuity through time. Accounting is the set of concepts, methodologies,
and models that allows us to do exactly that.

36
Chapter 6:
Tracking Value with Accounts
Value
The formula for value is:
Accounts and Accounting
In order to track valuation performance of the perpetuity (i..e business),
companies create accounts for each item of it’s financial existence. These
accounts are the basis of valuation. Valuation is the basis of actions taken in a
capitalist economy.
Accounts, Accounting & Excel
Excel is the software used to model the accounts of the enterprise and
determine the valuation of the perpetuity (i.e. business).
Account Filings & Public Data
10-K annual
10-Q quarterly
Account Statements: P&L
Income statement (P&L):
Revenues
COGS
Gross Profit
Operating Expenses
EBIT
Interest Cost
EBT
Taxes

37
Earnings
Account Statements: Balance Sheet
Assets = Liabilities + Shareholder’s Equity
Total Assets = Total Liabilities + Shareholder’s Equity
Current Assets + Long Term Assets = Current Liabilities + Long Term Liabilities
+ Value of Shares Previously Issued + Retained Earnings – Treasury Stock
Account Statements: Statement of Cash Flows
CF from Operating
CF from Investing
CF from Financing
Statement of Cash Flows is the linkage between the income statement and the
balance sheet.
Get D&A from SCF (CF from Operations) and CAPEX from SCF (CF from
Investing)

38
Part VI:
Analyzing Value with
Models (Finance)
As the economic existence of the perpetuity continues to grow, one becomes
interested in the value of the perpetuity. Enter finance, whose concepts,
methodologies, and models allow us to understand the valuation of the
perpetuity.

39
Chapter 7:
Analyzing Value with Models
Analyzing Value
Strategics, financials, and entrepreneurs undertake investment with the
expectation of NPV & IRR. They accept projects that have positive NPV and IRR
higher than the cost of capital. They actively find and structure positive NPV
projects and then match financial products to them.
The positive NPV project is ideally a perpetuity with the value of the business
being the perpetuity value:
Calculating NPV & IRR is the main analytical work of finance.
*Growth statistic CAGR (Compound Annual Growth Rate) is yearly IRR
From Accounts to Models
To go from accounts (accounting) to a finance number we use models. We
only use Free Cash Flow to determine valuation for major transactions in a
capitalist economy including restructuring, growth, M&A, and capital raising.
To go from account filings to models, we need to “clean the numbers”, “scrub
the financials”, “normalize the financials”. This amounts to recasting accounts
to get to a finance number. We try to get to a finance number to get to a
valuation. We get to a valuation to then take actions in a capitalist economy.
*We want more add backs to get to a higher valuation

40
Modeling
After getting valuation, we can then model the different actions we can take in
a capitalist economy to increase the valuation of the strategic, financial or
entrepreneurial firm.
Modeling in Excel
Just like our account statements, our models are built and exist in Excel
Analysis of Account Statements
Analysis of account statements (ratio of analysis) has various uses including
from a liquidity perspective, commercial bank perspective, activity perspective,
profitability perspective, and growth perspective.
Ex. 4x-7x debt multiple for lending purposes

41
Part VII:
Modeling Value
Continuing deeper into the field of finance we now discuss the actual work
associated with understanding the value of a perpetuity. The work is done by
modeling the perpetuity in Excel.

42
Chapter 8:
Finance with Excel
Finance with Excel
Express your decisions using Excel. Excel is the premier business computational
tool
Implement financial analysis using the tool for financial analysis, Excel
Valuation process
Heart of finance is time value of money and discounting
Excel Concepts Needed for Finance
Write down variables (defining the parameters of the decision)
Absolute or relative values copying (=A1) (=$A$1) and formulas
Functions (=fx( ))
Data tables (“sensitivity tables”)
Express Decisions with Excel
Implement financial analysis with Excel

43
Using a Financial Model for Decision Making: The Investment Decision
Ability to get financing from financial institutions depends on ability to make a
financial model for the new or existing business
The financial model projects future earnings from the organization
Predict the future performance of a firm.
Accounting statements report what happened to the firm in the past. A
financial model predicts what the firm’s accounting statements will look like
in the future. Start by taking the initial accounting statements and inputting
them into Excel
Difference between accounting and financial model is in the current assets and
current liabilities. In financial model we are concerned only with operating
assets and operating liabilities. We exclude financing related
Financial model has three components:
Model parameters (value drivers)
Financing decision assumptions (i.e. Mix between debt and equity, what does
firm do with excess cash? Repay debt, payments to shareholders, or as cash
balance)
Pro forma financial statements
Cash in the financial model is a plug. The plug is so that the balance sheet
balances.
Cash = total liabilities and equity – current assets – net fixed assets
The plug is the balance sheet item that guarantees the equality of the future
projected total assets and future projected total liabilities and equity. Every
financial model has a plug and the plug is almost always cash, debt, or stock.
Financial Model and Valuation Process:

44
Assumptions (value drivers)
Existing accounting statements (IS and BS)
Projected financial statements
Free cash flow calculation (FCFs)
Terminal value calculation
Valuation calculation
Sensitivity table for major value drivers to see range of valuation
Once the financial model is complete (i.e. accounting statements have been
projected), we can use the model to:
Value the firm by projecting free cash flows (FCFs)
Determine ability of firm to pay it’s debts (i.e. credit analysis)
Using a Financial Model for Decision Making: The Financing Decision
All companies must decide how to finance their activities
Proportion of debt and equity
The discount rate should be appropriate to the riskiness (i.e. variability or beta)
of the cash flows being discounted.
Discount rate is also called interest rate, cost of capital, opportunity cost.
Compute annualized IRR
The cost of capital of an investment is related to the risk of the cash flows of
the investment. The relationship of individual asset returns to the risk is called
the security market line (SML). You can use SML to get the discount rate for
individual investments. The SML is used for private companies.
The cost of capital of an organization is related to the risk of the combined
riskiness of the investments in the portfolio. The relationship of portfolio
returns to the risk is called the capital asset pricing model (CAPM). You use
CAPM to get the discount rate (i.e. cost of capital). When the investment is a

45
public security, you use CAPM since the buyer of the security will have a
portfolio to diversify away risk.
Portfolio risk is associated with statistics.
Wealth Maximizing Decisions
Investment decision – What is it worth? NPV of strategic alternative
Financing decision – What does it cost? IRR of financing alternative
Cash is King
Wealth maximization has to do with maximizing cash. Cash in the context or
organizations is known as cash flow.
Return is a word for cash flows
Cash Flow Definition (FCF)
Profit after taxes
+ Depreciation (noncash expense)
+ Change in net working capital (- increase in current assets and + increase in
current liabilities)
Capital expenditures (CAPEX)
+ After-tax interest payments
= Free Cash Flow (FCF)
Role of the Finance Professional
The role of the financial professional is to quantify the cash flows and risk of
strategic alternatives available to the individual or organization.
Investment bankers compute the IRR and NPV of strategic alternatives.
Capital Markets
The capital markets is made up of cash flows and discounts
Capital Markets and Information
Information is valuable in determining investment and financing decisions in
the capital markets. Overall, markets are weak form efficient meaning that their
valuations reflect previous stock price performance (i.e. stock price data) and

46
are sometimes semistrong meaning that valuations incorporate all public
information. Capital markets are not strong form efficient meaning that
valuations do not reflect private information.
Multiple Investment and Financing Decisions: Portfolio
When there is multiple investment and financing decisions, we have something
called a portfolio. The discount rate can be decreased by diversifying with a
portfolio. When the discount rate is decreased, the valuation of the portfolio
increases as cash flows have maintained more value.
A corporation/organization is simply a portfolio of sources and uses
Modeling a Strategic Alternative
Put all variables (“value drivers”) at the top of the spreadsheet
Never use a number where a formula will also work
Blue for hard codes
Black for links and outputs
Finance: Exchanging Value Through Time
Assets have a time dimension
Future value function =FV( )
Value in the future of a sum of money compounded into the future
Present value =PV( )
Value today of future payments discounted to present
Net present value (NPV) =-First payment + NPV( )
Incremental wealth increase earned by a strategic alternative. NPV tells you
economic value of an investment today. Always use NPV in the investment
decision.
Internal rate of return (IRR) =IRR( )
Compound rate of return earned by a strategic alternative
VIII. Rate of Return vs. Cost of Capital

47
What is the asset’s IRR?
Compare to the cost of capital (Effective annual interest rate – which is the
annualized IRR used to compare financing alternatives aka Compound Annual
Growth Rate (CAGR))
Cost of Capital
Calculate IRR of financing alternatives to determine cost of capital
Need to get IRR in annual terms to facilitate comparison. May have to start
with monthly IRR then annualize
Annualized IRR = (1 + Monthly IRR)^n-1
Finding a Value in a Financial Model
When we want to find a value by setting a particular value to another cell, we
use:
Goal seek – Alt, A, G
Financing Alternatives: Loan Amortization
=PMT( )
To calculate the debt payment per period
=IPMT( )
To calculate the interest portion of the payment of debt
=PPMT( )
To calculate the principal portion of the payment
VIII. Financing Alternatives: Direct Comparison
IRR of differential cash flows tells you the cost of the option
IRR tells you the cost of the financing alternative

48
CAGR is Effective Annual Interest Rate (EAIR) to allow for comparison
Analyzing the Strategic Alternative: Sensitivity Table
Data Table is Alt, A, W, T
Tells you how output changes with incremental changes in the inputs (i.e.
variables)
The Financing Alternative: Nominal vs. Real Cost
In determining the true cost of a financing alternative, it is important to use the
real rate of interest which incorporates inflation. The real rate of interest is
determined by using the real cash flows.
Inflation acts as a discount rate
Strategic Alternatives Analysis
For each strategic alternative, compute the NPV and IRR, then have decision
rules for investing including:
Minimum NPV
Hurdle rate (IRR)
You are using NPV and IRR to make investment decisions but you need the
discount rate. The discount rate is associated with the financing decision
Cash Flows and Risk
Are cash flows riskless (i.e. treasury bills) or are they risky (i.e. market portfolio)
Cost of Capital and Opportunity Cost
The returns of similar investments should be used as the cost of capital
The Discount Rate
An organization’s discount rate is the cost of equity and cost of debt. The
cost of the total capital structure is known as the Weighted Average Cost of
Capital (WACC):

49
WACC = rE* (E/(E+D)) + rD (1-Tc)*(D/(E+D))
Value of Equity
The value of equity is the present value of all future dividends
Sources & Uses
Uses Sources
Free Cash Flows WACC
CAPM to get cost of equity
Accounting Statements: Statement of Cash Flows
The purpose of the statement of cash flow is to explain the increase in the cash
accounts on the balance sheet as a function of the firm’s operating, investing,
and financing activities.
Valuation Methods: Total Enterprise Value (TEV) vs. DCF
Market valuation:
Total Enterprise Value (TEV) = MVE + MVD + Preferred – Cash
2. DCF Method (intrinsic value) = PV(FCFs) @ WACC + liquid assets
Accounting Value vs. Finance Value
Accounting value of firm is backward looking and thus incorrect to use in
valuation. Finance value is forward looking and consistent with the fact that the
owner of an organization or security has claims on the future cash flows of the
business.
FCF and DCF
Free cash flow (FCF) calculations is DCF
Portfolio Analysis and the Capital Asset Pricing Model (CAPM)
Discount rate is a measure of risk associated with:
Horizon
Safety
Liquidity

50
We get the discount rate by analyzing the distribution of an investment’s
returns. We get the standard deviation which is a measure of variance in
returns. Standard deviation is a component to finding the discount rate:
=STDEVP( )
What does the frequency distribution look like?
Determine risk measure known as beta and plug this into CAPM to get the
discount rate of equity. Derive the cost of debt and then calculate WACC to get
the discount rate of the firm.
Ex Ante vs. Ex Post Returns
Ex Ante is the expected return
Ex Post is the actual return
VIII. Statistics for Portfolios
=Average( )
To get mean return
=Varp( )
To get variance of returns
=Stdevp( )
To get standard deviation of returns
=Covar( )
To get covariance between two sets of returns
=Correl( )
To get correlation between two sets of returns
Trendline (regression) – click on points of XY graph and right click to Add
Trendline with linear regression and display equation and R-squared on chart
Portfolio Returns and The Efficient Frontier

51
Statistics are used to determine acceptable and unacceptable portfolios
Diversification lowers standard deviation of the portfolio
Are the returns correlated? If no, then add security to the portfolio (i.e.
diversify)
The efficient frontier is the set of all portfolios that are on the upward-sloping
part of the graph starting with the minimum variance portfolio (i.e. the market
portfolio). Choose the portfolio that is on the efficient frontier.
The Efficient Frontier and the Optimal Portfolio
The best investment portfolio is made up of the risk free asset and a risky asset
representing the market (i.e. the market portfolio)
Determine the market portfolio (the portfolio with the highest attainable
sharpe ratio)
Market portfolio is the best combination of risky assets available to the
investor
Security Market Line & CAPM
The security market line says that the expected return of an asset is a function
of the asset’s beta (i.e. sensitivity to the market).
Only relevant risk is systematic risk since the investors will all be diversified
Security Market Line & Investment Performance
Security Market Line & Investment Performance

52
VIII. Security Market Line & Investment Performance Continued
Investment performance:
Risk adjusted performance; excess returns?
Risk Adjusted Performance
Market portfolio proxy is S&P 500
Beta is measure of riskiness of security
Alpha measures excess return
Market portfolio proxy is S&P 500
Beta is measure of riskiness of security
Alpha measures excess return
It is about investment performance versus the risk involved in the investment
CAPM & Investment Performance
Use CAPM to get the discount rate of equity and compare to cost of financing
alternatives
Is there risk adjusted overperformance or underperformance?
Is performance commensurate with risk?
Excess Return
Excess return is the investment’s spread over the one year treasury (i.e. risk
free rate)

53
Use regression equation to determine if underperformance (negative alpha) or
overperformance (positive alpha)
When regressing asset’s returns against the market portfolio, alpha measures
excess returns over the market portfolio
Beta & R^2
High beta is an aggressive stock
Low beta is a defensive stock
R^2 is percentage of variability that is market related risk when returns are
regressed on the market portfolio
Diversification increases R^2 of the portfolio and decreases nonsystematic risk
Alpha and Efficient Markets
In efficient markets, there is no alpha and investments earn their risk-adjusted
return
CAPM and the Cost of Capital
CAPM = rf + Beta [ E(rm) – rf]
In CAPM, use Beta of asset to calculate cost of equity
WACC is the discount rate based upon the capital structure of the investment
Valuing Securities in Efficient Markets
Market efficiency and the role of information in determining asset prices
Publicly available information should be reflected in market price

54
Chapter 9:
Financial Statement Modeling
Financial statement modeling refers to the creation of a standalone operating
model for a company. The operating model is built using historical
performance (i.e. historical financial statements). We use the operating model
to see pro forma performance of a company given certain assumptions. These
pro-formas are the basis for decision making within the corporation.
Financial statement modeling best practices:
Blue is hard codes, black is formulas
Be consistent with millions and billions (keep conventions the same)
Footnote everything in presentation
Keep your model simple (1,000 cells is better than 10,000 cells)
Financial Modeling Steps:
1. Spread historical financial statements
a. 3 to 5 years history for IS, BS, and SCF
b. Public information for company 10K, 10Q
c. If private company, get audited financial statements provided by
company
2. Adjust for non-recurrings
3. Build cases into the operating model
a. Best case
b. Base case
c. Worst case
d. Disruption case

55
4. Build assumptions based upon historical trends in assumptions tab
(margins and growth rates)
5. Project LIBOR and interest rates
a. Spread over LIBOR
b. LIBOR is the base that banks use to price spread their loans to
make money (called “L”)
c. 3 month LIBOR is the standard reference
6. Project IS and BS & two items on SCF (D&A and CAPEX (before gross PPE
on BS))
a. Maintenance CAPEX vs. Discretionary (growth) CAPEX
7. Separate debt and interest schedule (calculate debt and interest schedule
before calculating BS items for revolver, term loan, and unsecured debt)
8. Project Working Capital
a. Days payable & Days receivable (360 day method)
9. Project rest of SCF (all items pulled from IS or BS)
a. AR goes up, need negative sign on SCF
b. AP goes up, need positive sign on SCF
c. BS cash is ending cash position on SCF
10. Calculate paydown/drawdown for revolver as minimum (Min function) of
CF before revolver and beginning revolver balance
11. Operating model is done when you finish SCF. Operating model check
(zero for Assets – (Liabilities + Owners Equity)
NEXT STEP IS TO USE THE OPERATING MODEL FOR VARIOUS ANALYSES
INCLUDING ORGANIC GROWTH & INORGANIC GROWTH (STRATEGIC
ALTERNATIVES). THE KEY QUESTION TO ASK IS: WHAT IS THE BEST STRATEGIC
ALTERNATIVE FOR THE CORPORATION (I.E. HOW TO BE A GROWING
PERPETUITY OR PARENT COMPANY OF MULTIPLE GROWING PERPETUITIES)?

56
BUILD-SIDE
Related to the intentional creation of perpetuities following a methodology, we
have what is known as the build-side. The build-side is associated with the
creation and management of perpetuities. Participants on the build-side
include startups, growing businesses, and established corporations.

57
Part I:
How to Build a Perpetuity?
The process for building a perpetuity is the following:
1. Challenge/opportunity and case for value perpetuity & financial perpetuity
(total addressable market that exceeds hurdle)
2. Key question associated with challenge/opportunity
2. Methodology that answers key question
3. Platform architecture consistent with methodology
4. MVP (Minimum viable product) of platform
5. Value Perpetuity
6. Financial Perpetuity
7. Growing Financial Perpetuity

58
8. Diversified Perpetuity
Perpetuity Science & The Perpetuity Scientist
Within Perpetuity Science, there are definite phases of the perpetuity
corresponding to levels of development of the perpetuity including:
1. Levels of customer concentration where:
a. high levels of customer concentration correspond with a lower EBITDA
multiple and low levels of customer concentration correspond with a high
EBITDA multiple
2. Levels of recurring revenue where:
a. high levels of recurring revenue correspond with a high EBITDA multiple
and low levels of recurring revenue correspond with a low EBITDA multiple
3. Levels of owner dependence where:
a. a high level of owner dependence corresponds with a lower EBITDA
multiple and low levels of owner dependence correspond with a high EBITDA
multiple
The perpetuity scientist (CEO or consultant) is not only responsible for growing
the benefit stream (CF), but also these de-risking factors that determine the
discount rate (r). In doing so, the perpetuity scientist builds a highly sought
after perpetuity for both strategic and financial buyers corresponding with a
premium valuation.
When providing coverage to a target perpetuity and originating an
engagement, the perpetuity scientist should follow these steps:
Stage of the Perpetuity:
1. Syndication:
(Getting to PMT)
Initial revenue generation

59
The key here is taking a concept that has a large enough total addressable
market and turning it into a single sale as represented by PMT. This
demonstrates product market fit between the minimum viable
product/platform and allows the owner to invest additional
time/energy/resources into turning the syndication into a perpetuity. The
syndication’s value to the owner will be related to the NPV/DCF value,
however, since there is an inefficient market for syndications, the value is going
to be discounted at a high rate, in the 80% to 100% range. The syndication is
entirely reliant on the owner’s active involvement. If the owner no longer works
in the syndication, the syndication will cease to operate.
The market here is inefficient.
2. Job Shop:
(From PMT1 to PMT2, PMT3, etc)
The initial efforts create a job shop
The key here is taking a syndication that has demonstrated product/market fit
and turning it into a job shop with multiple projects as represented by PMT1,
PMT2, PMT3. This demonstrates product market fit between the minimum
viable product/platform and allows the owner to invest additional
time/energy/resources into turning the syndication into a perpetuity. The job
shop’s valuation is based upon a multiple of its EBITDA and is usually in the
range of 3x to 5x. The job shop is not entirely reliant on the owner’s active
involvement and there is thus a larger, albeit still inefficient market for the
prospective perpetuity with likely buyers being individuals and LMM strategic
and financial buyers.
The owner’s primary responsibility is to first turn the company into a project or
job shop (PMT representing a given job). The company is looked at solely as
the sum of the value of its projects/jobs meaning that the valuation of the
company is backward looking.
3. Perpetuity:
(From PMTi to CF/r)
Transitioning from a job shop to a recurring revenue stream

60
The key here is taking a job shop with disparate projects (PMT1, PMT2, PMT3)
and turning it into a perpetuity with a predictable if not recurring benefit
stream. The perpetuity’s value is based on a larger EBITDA multiple since there
is a semi-strong efficient market for perpetuities with likely buyers being
middle market strategic and financial buyers. The perpetuity is almost entirely
not reliant on the owner’s active involvement.
From here, the owner is to turn the company into a perpetuity as characterized
by predictable, preferably recurring revenue. This can be done by building an
organizational structure with division of labor, automated processes with
technology, and a business model that is recurring by nature. When this is
accomplished, the valuation becomes forward looking.
4. Growing Perpetuity:
(From CF/r to CF/r– g)
Going from recurring revenue stream to a growing perpetuity
The key here is taking a perpetuity with a durable benefit stream (CF) and
reasonable amount or variability in that benefit stream (r) and turning it into a
growing perpetuity with a corresponding growth rate (g). The perpetuity’s
value is based on an even larger EBITDA multiple since there is a weak form
efficient market for growing perpetuities with likely buyers being middle
market strategic and financial buyers and some public strategic and financial
buyers. The growing perpetuity is almost entirely not reliant on the owner’s
active involvement.
This can be accomplished by building a scalable platform as part of the core
business. The valuation of the company now has to incorporate a growth
factor.
5. Diversified:
(Perpetuity 1 + Perpetuity 2)
From one growing perpetuity to growing another perpetuity organically or
purchasing one to grow inorganically

61
Finally, the owner is to diversify either organically (new product, new business)
or inorganically. If the diversification is organic, the new product/business will
naturally move through the phases of:
1. Syndication
2. Project/job shop
2. Perpetuity
3. Growing perpetuity
Since the valuation is forward looking, it has to incorporate the new
product/business’ financial performance. Since the parent company is now
becoming diversified, the discount rate will now decrease which adds value to
the parent company.

62

63
Chapter 31:
How to Build a Benefit Stream?
The CEO’s role is to bring the company/opportunity through the stages of the
Reasoning to Platform
The ultimate conclusion of reasoning applied to a challenge/opportunity in
nature is the building of a platform which in turn can be turned into a
perpetuity.
1. Opportunity/challenge in nature
2. Key question associated with challenge/opportunity
3. Develop methodology that answers the key question
4. Build platform around the methodology
5. Perpetuity
Existing Platform to New Value Theme
A common way to begin on the build-side is to take an existing platform
and apply the concept to a new value theme. We will discuss this in
great detail in the cases portion of this text.

64
Platform vs. Mod
Platform is associated with network and is the core value, the connecting
of individuals in an integrated platform. Platform is ultimately the basis
for becoming a perpetuity.
Mod is associated with a specific functionality.
The Value of Technology & Science
Technology and science have value inasmuch as they are associated with a
perpetuity. Technology and science in isolation has no value.
The Consumption Process & Growth Hacking
It is important to have appropriate expectations regarding growth and returns.
One does not simply build an MVP and turn on users with a switch. Brands are
built one person at a time and consumption follows a definite process which is
the following:
1. Awareness of methodology via being advocated to directly on a social
network or via email
2. Methodology adds value for individual (based in reason) and thus the
user decides to be a follower
3. Followership of brand adds value enough so that when the 'ask' is made,
the individual is willing to experiment with usage
4. Usage adds value enough so that the user becomes an active user
5. Active usage adds value enough so that individual is willing to
recommend others to become users
6. Active users willing to pay for usage
Since there is a definite process to consumption, one's growth hacking
methodology should be consistent with this fact. The Growth Hacking
Methodology means manually connecting with individuals on various

65
social networks including Instagram, Facebook, & Twitter to first
advocate the startup's methodology:
1. Develop thought leadership (methodology)
2. Advocate methodology and first contact
3. Acquire followership
4. Convert followership into users
5. Convert users into active users
The key here is to advocate the startup's methodology and then show
traction on the methodology which will be used to gain followership
from influencers and turn them into evangelists for the methodology.
Mechanisms like social proof can be helpful as they accelerate
willingness to participate in followership or experiment with usage, but
they are not a replacement for one by one advocacy of a methodology.
Social proof kicks in incrementally as the startup hits an extra zero at the
end of its followership and user numbers (ex. 100, 1000, 10000, 100000,
1000000).

66

67

68

69

70
Chapter 32:
How to De-Risk a Benefit Stream?

71

72
Part VIII:
Perpetuity Analysis
On the build-side, we are ultimately concerned with the creation and
management of perpetuities. We first explore the perpetuity analysis,
perpetuity building process/timeline (including sources and uses) and then
move towards a methodology for perpetuity management.
The goal of Perpetuity Science is the building, growing, management, exit and
buying of perpetuities, so ultimately, while learning about Perpetuity Science
itself, we are also actively looking for:
1. Perpetuities to create
2. How to advance a perpetuity to the next phase
3. Perpetuities that should be exited from
4. Perpetuities that should be purchased
Perpetuity analysis is performed with an understanding that a perpetuity’s
ideal course of action at any given time is related to one of the three sides of
the perpetuity (Build-side, Sell-side, Buy-side) which depends on the phase
that the perpetuity is in:
I. Industry and sub-industry indices made up of public comps
II. Benchmark comps into Perpetuity Phases
III. Build financial statement models for each
IV. Determine DCF, Comp Companies & Precedent Transactions valuation
football field

73
V. Compare peers in Perpetuity Phase to intrinsic value to determine if this
is a Buy-Side, Sell-Side or Build-Side deal (where are peer multiples at in
relation to intrinsic value?)
a. If Build-Side: What needs to be done to get to the next phase of the
perpetuity?
b. If Sell-Side: How to exit the perpetuity?
c. If Buy-Side: How to acquire a target perpetuity?
Perpetuity science explains how perpetuities can be built, managed and
exited from to create wealth. As such, it inherently has an owner focus
rather than simply a capital markets focus which is manifested by the
dual goals of decreasing the owner’s active involvement in the day to
day of the business and the maximizing of valuation.
Perpetuity science is where entrepreneurship, strategy & finance come
together. It a field of study complete with a body of knowledge,
methodologies, and optimization models towards improving the
individual's quality of life by the building of a perpetuity that
accomplishes two dual goals:
1. ever decreasing involvement of the perpetuity owner in the
perpetuity
2. ever increasing valuation of the perpetuity
Perpetuity science is ultimately about maximizing quality of life rather
than just wealth by building perpetuities with recurring revenue
streams that are not reliant on the daily participation of the owner of
the perpetuity. We can take a look in a visual format of what we are
trying to accomplish:

74
As you will notice, the owner’s direct involvement in the perpetuity
decreases as the perpetuity moves through the phases of development.
Also, valuation increases as the perpetuity moves through the phases of
development for three reasons; EBITDA increase, EBITDA multiple
expansion, decrease in discount rate.
The key question is: How to build a perpetuity that minimizes the daily
involvement of the owner and at the same time maximizes it’s
valuation.
Though applicable to all industries, the focus industries of perpetuity
science are thus those that do not require significant capital outlays
which could otherwise be used to invest in a diversified portfolio. These
industries include:
1. Technology
2. Media
3. Education
4. Business Services

75
As you will notice, these industries have to do with knowledge working
and benefit from information arbitrage and/or network arbitrage. While
it is possible to structure arbitrage in other industries by preselling
various products and services, knowledge working industries offer
genuine information/network arbitrage as well as allowing for recurring
revenue business models rather than being one time commodity or
project-based. You will also notice that margins are much larger in
knowledge working industries which translates into larger EBITDA
multiples. Thus, the owner of the perpetuity is rewarded multiple times
more for the value that their perpetuity creates than they would for
commodity or project-based syndications.
Given that the human has a limited amount of time on earth and
limited resources within which to invest (energy, capital), one should
invest their time in knowledge working industries and build perpetuities
there first. Only after a perpetuity has been built in a knowledge
working industry should the owner explore other non-knowledge
related industries.
One should thoroughly understand these industries overall and their
sub-sectors when syndicating a new perpetuity. We will go into these
industries in detail after explaining the perpetuity building process, the
perpetuity management process, and perpetuity exit process.
The science of the perpetuity can be broken down into three sequential
categories including:
I. Perpetuity Analysis
II. Perpetuity Building
III. Perpetuity Management
Perpetuity Exit
Market Analysis
GDP

76
Industry Spend
Sub sector spending
Sub sector spending by product

77
Value Chain Analysis
General
Industry
Sub-sector
Sub-sector by product
Gap Analysis
General
Industry
Sub-sector
Sub-sector by product
Product/Platform Analysis
Base
Mods
Perpetuity Science: A methodology that synthesizes industry and the
capital markets in relation to the perpetuity. The science of building,
selling and buying perpetuities.
I. Nature of the Perpetuity
II. Phases of the Perpetuity
III. Sides of the Perpetuity

78
IV. Perpetuity Analysis:
Industry and sub-industry indices
Determining where leaders are at in Perpetuity Phases
Build financial statement models for each
Compare Perpetuity Phase to intrinsic value
Determine if this is a Buy Side, Sell Side or Build Side deal (where are
multiples at in relation to intrinsic value?)
What needs to be done to get to the next phase of the perpetuity?

79
Chapter 10:
How to Be a CEO?
The CEO should thus be familiar with perpetuity science and the phases of the
perpetuity.
As the perpetuity changes, the formula for valuing the perpetuity changes as
well. There are five phases of perpetuity building. As we move through the
phases, the role of the owner of the perpetuity becomes more passive and the
valuation becomes larger due to size of EBITDA increasing, EBITDA multiple
increasing, and the discount rate decreasing. The perpetuity becomes less
dependent on the owner to exist and run as an organizational structure is
formed coinciding with the division of labor, processes are automated, and
revenue becomes recurring.
Phases of the Perpetuity:
I. Syndication (Getting to PMT)
II. Job Shop (From PMT1 to PMT2, PMT3, etc)
III. Perpetuity (From PMTi to CF/r)
IV. Growing Perpetuity (From CF/r to CF/r– g)
V. Diversified (Perpetuity 1 + Perpetuity 2)

80

81
Chapter 10:
How to Be a Consultant?
The consultant’s role is to aid in the building, selling, or buying of a
perpetuity. Since the consultant’s value is in relation to the perpetuity,
the consultant’s core methodology/body of knowledge is Perpetuity
Science. Perpetuity Science is the set of methodologies related to
building, selling, and buying of perpetuities which is referred to as the
build-side, sell-side, and buy-side respectively. The key questions related
to each side of the perpetuity are:
The consultant uses methodologies related to each one of these key
questions which serve as the basis for a consulting engagement:
1. Build-Side: How to move a company/opportunity to the next stage of
the perpetuity building process? The methodology for the phases of a
perpetuity is the following:

82
2. Sell-Side: How to obtain a valuation higher than the NPV of the
perpetuity? The methodology for doing so is to get a buyer to price in
the next phase of the perpetuity into the current valuation (ex. if the
perpetuity is at the perpetuity phase, get the buyer to pay for a growing
perpetuity)
3. Buy-Side: How to locate and take ownership of a perpetuity that is being
valued at less than its NPV? The methodology for doing so is to get the
seller to accept a price for the previous phase of the perpetuity (ex. if the
perpetuity is at the growing perpetuity phase, get the seller to sell for at
a perpetuity valuation)
What Should You Learn in Business School?
Since the perpetuity is the basis for both industry and the capital
markets it follows that business school thus focus on educating
individuals on:
1. The Nature of the Perpetuity
2. The Phases of the Perpetuity
3. The Different Sides of the Perpetuity

83
The standard MBA curriculum at most business schools is broken down
along siloed subjects such as accounting, finance, management,
operations, and marketing and attempts to teach students how to be a
mid-level manager at a large corporation for the rest of their lives.
Unfortunately, these jobs are mostly gone, having been shipped
overseas or automated. This MBA curriculum is thus outdated and not
appropriate for the 21st century when most individuals will have multiple
jobs and roles throughout their careers and lives.
The more appropriate field of study which has yet to make it to business
schools is known as Perpetuity Science. Perpetuity Science is the body of
knowledge, methodologies, and optimization models related to the
building, selling, and buying of perpetuities. It explains how perpetuities
can be built, managed and exited from to create wealth. Perpetuity
science is a paradigm shift in business and finance education in that it
replaces the siloed subjects traditionally taught in undergraduate and
graduate business schools with a holistic methodology that integrates
industry and the capital markets into one framework.
Instead of a disparate business taxonomy along the lines of economics,
finance, accounting, marketing, etc., we have an initial taxonomy broken
down in relation to the perpetuity, namely:
Build-side – the building of perpetuities (entrepreneurs, corporations)
Sell-side – the selling of perpetuities (investment bankers, wall street)
Buy-side – the buying of perpetuities (private equity, corporate M&A)
Within each of the three, we have various methodologies and
optimization models that may touch on various subjects such as
accounting, finance, economics. By starting with perpetuity science, the
student can better synthesize the various moving parts of industry and
the capital markets.
1. The Nature of the Perpetuity: When first learning about industry and
the capital markets, one should first understand the nature of the
perpetuity, which is the basis for industry & the capital markets. The
perpetuity can be modeled with the following formula:

84
Perpetuity value = CF / r
Where CF represents the benefit stream associated with the
perpetuity and r represents the discount rate associated with the
perpetuity’s risk of receiving the benefit stream.
2. The Phases of the Perpetuity: After understanding the nature of the
perpetuity in general, we can then analyze the perpetuity within
each industry. The nature of the CF, r, value chain, and value being
offered will be different. We investigate each industry according to
these variables by building an index for each industry and then sub-
sectors within the industry:
3. The Different Sides of the Perpetuity:

85

86

87
Part IX:
Perpetuity Management
On the build-side, we are ultimately concerned with the creation and
management of perpetuities. We first explore the perpetuity analysis,
perpetuity building process/timeline (including sources and uses) and then
move towards a methodology for perpetuity management.

88
Chapter 15:
The Purpose of the Company
Companies exist to create value
How Companies Create Value
Companies create value by investing capital at rates of return that exceed their
cost of capital. This is the principle of value creation.
The only thing that differs across companies is the implementation (i.e.
different asset and capitalization mix)
Strategy & Finance

89
Valuation Drivers
The Role of the CEO

90
Valuation

91
Perpetuity Management with Discounted Cash Flows
Growth or Restructuring
Perpetuity Management Process

92
Measuring Value Added: ROIC vs. Market Return
Measure return on invested capital (after-tax operating profits divided by
capital invested in working capital, PP&E) and compare it with stock market
returns
Measuring Value Added: Economic Profit & NPV
Economic profit = ROIC spread % over cost of capital x invested capital
The objective is to maximize economic profit. When the company is larger, one
should use Net Present Value (NPV) which calculates economic profit in a more
robust and flexible fashion.
Valuation in the Public Markets
Valuation in the public markets has investors paying for the performance they
expect the company to achieve in the future; investors ultimately end up
paying more since their valuations are not based upon the past or cost of the
assets.
The CEO should endeavor to have his company in the public markets since the
largest multiples are applied in valuation
Real Markets & Financial Markets
When a public company, the CEO has to both maximize the intrinsic (DCF)
value of the company and manage the expectations of the financial market
Differences between actual performance and market expectations and changes
in these expectations drive share prices. The delivery of surprises produces
higher or lower total shareholder returns
Perpetuity Planning & Control (i.e. Management)
Planning & control system should be put in place to monitor the NPV of every
business unit and summed to get the NPV of the corporation. Economic profit

93
(i.e. NPV) targets set annually for next three years, progress monitored monthly
and managers’ compensation tied to economic profit against these targets
Value Metrics
Metrics are to drive decisions and guide all employees toward value creation.
Perpetuity Planning & Control (i.e. Management) in Practice
Corporate management sets long-term value creation targets in terms of
market value of a company or total returns to shareholders (TRS)
Strategic alternatives valued in DCF (i.e. NPV)
Intrinsic value of chosen strategic alternative translated into short and medium
term financial targets and then targets for operating and strategic value drivers
Performance assessed by comparing results with targets on both financial
indicators and key value drivers. Managerial rewards linked to performance on
financial measures and key value drivers
Value Metrics: Market Value Added & Total Return to Shareholders
Market Value Added is the difference between the market value of a
company’s debt and equity and the amount of capital invested. Measures
financial market’s view of future performance relative to capital invested in
business.
Total Return to Shareholders measure performance against the expectations of
financial markets and changes in these expectations. TRS measures how well a
company betas the target set by market expectations
Value Metrics: DCF vs. Earnings Multiple
DCF is intrinsic value. Earnings multiples are market values.
Earnings alone is inadequate without understanding the investment required
to generate the earnings. Should know ROIC

94
Cash Flow
Cash flow equals the operating profits of the company less the net investment
in working capital and fixed assets to support the company’s growth.
Perpetuity Management Capability
1. Analyze where perpetuity is currently at (which phase)
2. Determine which phase is the goal
3. Determine steps to get to next phase of the perpetuity
4. Build Work Breakdown Structure (WBS) to get to next phase working
backward from the next phase
5. Execute the plan
Perpetuity Lifecycle

95
Chapter 16:
Valuation Methodologies
1. Public Company Valuation
2. Comp Companies – Also known as trading comps. Management team
gives you 1 to 2 years projections or equity research comp reports to get
forward multiples (x Revenue or x EBITDA ) which may be used as the basis
for this valuation. You can get comps from the general overview as it will
discuss the target’s comps in the 10K. Find comps with good multiples to
then tell your story to the marketplace to then get a certain valuation.
a. Select the universe of comparable companies – Choose 7, 8, 10 comps,
need their 10K, 10Q, analyst reports to get TEV for each comp then divide
by line item to get multiple.
b. Locate financial information on comp companies – Information must come
from latest filing (10K or 10Q). Print out 10K, 10Q, analyst reports.
c. Spread key financial information, ratios and multiples – Calculate TEV (in
comp spread tab). To get MVE, use TSM method. TSM = Exercisable
options outstanding x (share price – strike) / share price.
d. Benchmark comp companies – Get the multiple that the company is
trading at for each metric for each comp and get mean and median of
comps for the metrics (ex. TEV/EBITDA)

96
e. Determine implied valuation – Multiply mean and median multiple x the
revenue or EBITDA to get the valuation range for your target company.
Notes:
The better the company, the higher the multiple and the better valuation
you get.
In IB/PE/CorpFin, you need to know comp companies and transaction
comps. “Here are the comps in your sector…”
Higher multiple because…
Operating in better markets, better operations
The multiple tells you which company is better, margin analysis tells you
why they are better.
Sell side key question:
“Which comp would you use to guide potential buyers?”
3. Precedent Transactions – comp transactions
a. Select universe of comp transactions
b. Locate deal-related and financial information – Need press release of the
deal, 8K, 10K, and 10Q. Type of payment: cash, stock, cash & stock.
c. Spread financial information, ratios and multiples – Get transaction TEV
(implied) & transaction MVE (implied)
d. Benchmark precedent transactions
e. Determine implied valuation
Notes:
20% to 25% control premium paid with the transaction multiple being an
implied one based upon the valuation.
Determine whether the market is good or bad based upon whether people
are paying good premiums (control premiums).

97
When a transaction occurs, update client on the latest transaction to show
them impact on the control premiums being paid and implied multiple as
well.
Point to the transaction comps that have the highest control premium.
4. Discounted Cash Flow (DCF)
a. Spread historical financial statements (input historicals) and derive
historical ratios, trends and variables (drivers of future performance;
margins and growth rates). Project financial statements (proforma).
Revolver modeling to link IS, BS, and SCF
b. Project free cash flow (FCF)
c. Determine Weighted Average Cost of Capital (WACC) – Discount rate
Cost of equity:
Rf = 10 year treasury
Market risk premium = Rm – Rf. Refer to Ibbotson. Ultimately this is S&P
returns over 70, 80, or 90 years
Beta = Levered beta of comps to unlevered median and mean of comps
(unlevered beta); should be .5 to 2.5; 2 year to 5 year betas (taking out
capital structure and relever to actual capital structure. With beta, we are
putting capital structure on unlevered beta mean and median of comps to
calculate WACC of own company.
Cost of debt: weighted average of tranches of debt tax effected; found in
10K. Rates from the notes. If private company, get from clients the
tranches and to get rates, go to DCM to get approximation.

98
Cost of equity 20% to 25% in private markets. No use of debt is an
inefficient use of capital. Trying to optimize the D/E ratio to minimize cost
of financing.
d. Determine terminal value – EBITDA multiple which is going to be almost
80% of the company value. Terminal value = LTM multiple from comps x
EBITDA. Perpetuity growth rate should be 2.5% to 3% and should not be
larger than the size of the GDP of the country
e. Calculate net present value (NPV) and determine implied valuation
Notes:
Need the valuation date; this determines stub year fraction (i.e. period left
in the year). Stub year fraction – investor does not have claim on revenues
before that. DCF value always moving through time consistent with
valuation date.
IB interviews test you on DCF. Everything else that you know is a bonus.
Do DCF to find yield to decide whether or not to invest principal.
Creating value:
$ dollars of value increased by…
Changing multiple on valuation
Decreasing the discount rate

99

100

101
Chapter 17:
Framing Valuation
We are not looking at each valuation methodology in isolation but are
ultimately using the methodologies together to frame the valuation in a
valuation summary format. We use a “football field” (valuation summary) to
frame the valuation which looks like the following:
Regarding the football field, we add control premiums to comp companies and
DCF (% addition that is equal to the control premium average for the
transaction comps) if doing valuation for selling the company.
Footnote everything (assumptions) in the football field. The football field takes
one day to a few days depending on how easy it is to obtain the precedent
transactions data.
Banker should know what valuation the client expects to be at; 10% to 15%
spread of range of valuation (“tighten” the range if needed by eliminating
comps that skew the range)

102
For each valuation methodology we are going to do a sensitivity analysis to
determine a valuation range:

103
Chapter 18:
The Market for Perpetuities
The market for the perpetuity at its initial stages is inefficient, but as it moves
through the stages of a perpetuity, the market becomes more efficient. You
can observe the coinciding cost of capital move from almost 100% going all
the way down to 3.5%.
You can observe the EBITDA multiple for the perpetuity increasing as the
perpetuity moves through the phases of the perpetuity.

104

105
SELL-SIDE
As perpetuities continue to grow, the builder of the perpetuity seeks to grow
the perpetuity inorganically or exit the perpetuity. This is the primary role of
the sell-side, which is to aid in the buying and selling of perpetuities.
Investment bankers now enter the picture as this is their core work.

106
Part X:
How to Sell a Perpetuity?
On the sell side, the primary responsibility of the investment banker is to aid
those owning perpetuities in analyzing their strategic alternatives related to
inorganic growth or exit.
Which phase is the perpetuity in? (SMB, LMM, MM, UMM, L)
Which buyers are likely interested in the perpetuity? (Individual, Financial,
Strategic, Special Situation)
Each of these buyers have a different valuation range
Individual – Desire 30% to 40% IRR, 3x EBITDA

107
Financial – 4x to 7x EBITDA
Strategic – 5x to 10x EBITDA
Valuation is a range
Determine valuation method (DCF, comp companies, precedent transactions)
Calculate benefit stream (synergistic vs. owner benefit)
Determine required rate of return given the phase of the perpetuity and the
buyer (discount rate)
Convert benefit stream into present value at the discount rate
Sensitize the variables for a range of values to see effect on valuation
(sensitivity table)
Strategics and financials establish their filter criteria (hurdle IRRs for financial
and minimum EPS increase for strategics) and test targets against this filter
Strategics have a range of values with standalone value as the lower end and
valuation with all synergies on the higher end. A deal happens usually in the
middle

108
Chapter 19:
Investment Banking
Since M&A (Mergers & Acquisitions) is the core product of investment
banking, discussions around investment banking typically relate to M&A. M&A
is the selling of a perpetuity in the form of a corporation to either a financial or
strategic buyer. Financial and strategic buyers have what is known as
investment/corporate M&A mandates which detail the size and industry of
prospective targets for acquisition. The investment banker takes these
mandates and matches them with targets and takes a fee for doing so.
Investment bankers typically focus on one industry and provide what is known

109
as coverage by building an index of public companies and tracking changes in
targets relative to the index in terms of:
Revenue
EBITDA
Multiples
The investment banker monitors trends in these variables and determines the
optimal time to sell (when multiples are strong) or acquire (when multiples are
weak) and advises target management accordingly. When a target agrees to
sell via an investment banker, this relationship is known as a sell-side mandate
and an M&A process will be led by the investment banker. During the M&A
process, there are definite steps and deliverables including a teaser, CIM, and
management presentation. The M&A process can include many prospective
buyers (broad auction) or few prospective buyers (targeted or negotiated sale).
The investment banking core product is M&A. As such, the investment
banker’s role is to aid in the growth of perpetuities via an inorganic strategy
(merger, acquisition).
The real work of M&A is origination, matching and deal-structuring. Financial
modeling and valuation is merely for decision support and deals often get
done simply based upon precedent transactions analysis. Thus, the priority of
the investment bankers is to obtain a base level understanding of financial
modeling & valuation but then to immediately start originating sell side and
buy side mandates.
Investment bankers explore strategic alternatives (value creation opportunities)
with corporation’s CEO’s/owners.
Notes:
Valuation Football Field and the Midpoint is the final valuation of the company.
Calculate NPV and IRR to the sponsor in LBO or EPS Change and Balance Sheet
Effects in Merger

110
Compare NPV and IRR OR compare EPS change and BS effects to other
strategic alternatives and choose the highest return/EPS alternative
Ultimately, as an investment banker, you are to:
Use valuation methodologies to determine valuation ranges of each strategic
alternative and see if capital sources match uses. IBankers should provide the
client with tight ranges on valuation.
Use an operating model of the target (and acquirer if strategic) and then tailor
it to the specific client:
Financial (LBO)
Strategic (Merger)
Determine:
NPV and IRR for financial in LBO
EPS change and balance sheet effects for strategic in merger M&A
Run the M&A process
Traditional Investment Bank Responsibilities:
Junior Banker:
Industry coverage
Comps and comp transactions (where are multiples)
Valuation
Mid Banker:
Operating model creation + tailored to transaction client (LBO or
Merger)
Manage M&A process
Senior Banker:
Revenue center
Personal contacts at firms to win engagements

111
Chapter 20:
How to Become an Investment
Banker Methodology
The following is the How to Become an Investment Banker Methodology:
1. Coverage
a) Index building
b) Vertical report
c) Vertical newsletter
2. Target screen & origination
3. Mandate/target matching
4. Deal structuring
5. Buyer/seller meeting logistics
6. Adjusted EBITDA calculation
7. Valuation
8. Offer analysis
9. Purchase agreement drafting/structuring
10. Due diligence data room
11. Closing & flow of funds
Decide on the industry/industries that you will cover, read/research the value
themes/players/multiples in the industry on the following levels:
1. Large cap

112
2. Mid cap
3. Small cap
4. Middle market
5. Lower middle market
Pick an initial vertical and sub-vertical to cover. With AltQuest Group, our initial
coverage groups were the following:
1. Manufacturing
2. Software
4. Healthcare
After choosing your coverage, the investment banker is then to build an index
for each of the verticals and sub-verticals made up with the public comps. The
AltQuest Group coverage is broken down in the following manner:
1. Manufacturing
a. Durable consumer
b. Non-durable consumer
c. Aerospace & defense
d. Building products
e. Industrial
f. Medical
2. Software
a. Traditional software
b. SAAS
c. Internet
a. Education & Training
b. Business Process Outsourcing
c. Facility Services and Industrial Services
d. Human Resources
e. Information Services
f. Marketing Services
g. Real Estate Services
h. IT Services

113
i. Specialty Consulting
4. Healthcare
a. Dental Product
b. Dental Providers
c. Medical Devices & Products
d. Medical Product Distribution
e. Specialty Providers
f. Pharma Services
g. Practice Management
h. Provider Services
i. Long Term & Behavioral Care
The investment banker then spreads each public comp and the financial data
feeds into the median and average for the vertical and sub-vertical which
ultimately ends up in the research (industry report, newsletter), pitchbooks,
and CIMs of the investment bank. For investment banks with an equity
research department, financial statement models will be built for each public
comp that is being covered and consensus EPS data taken from research
reports will be used to establish the value of the public comp.
The investment banker ultimately uses the vertical index and sub-vertical index
to perform proprietary research and develop industry reports and newsletters
which will aid in coverage and ultimately origination. The research, which we
will go into greater detail on later in the book focuses on vertical and sub-
vertical trends in margins, multiples, and M&A.
After establishing one's coverage and then building an index for the vertical
and sub-vertical as well as establishing relationships with strategic and
financial buyers within the vertical and sub-vertical, the investment banker may
begin advising targets on their strategic alternatives using information gleaned
from the vertical and sub-vertical indices. Regarding the vertical index and sub-
vertical index, the investment banker ultimately tracks trends in:
Growth rates
Margins

114
Debt to Equity
Multiples
The investment banker takes the index and establishes tiers which turn into
peer groups. This is why we pull public comps; to benchmark a target against
the comps. By comparing a target's level of performance to it's peers and the
industry in general the investment banker can determine when it is ideal to exit
the business (when multiples are strong) and when it is not (when multiples are
weak). This is how investment bankers advise on strategic alternatives.
Getting Started in Investment Banking
For those just getting started in investment banking, it is preferable to start
with the lower middle market and middle market building relationships with
financial and strategic buyers as well as potential targets. This means building
your rolodex. Obtain the investment mandates from the strategic and financial
buyers and establish a fee arrangement for buy-side deals. This will end up
being the Lehman scale for the fee on the buy-side. This is how I built the
boutique investment bank, AltQuest Group (www.AltQuest.com).
For example, with AltQuest Group, I chose to cover manufacturing. If you are
starting in the lower middle market, the goal is to get 10 sell side engagements
at any given time. It took me one year to get 10 sell side engagements working
40 hours per week and not on weekends. Further, it is going to take you 6
months to one year to close a deal so stay proactive with origination and
mandate/target matching.
To give you an idea of the level of productivity that you should target, the
following are the investment banking statistics from year one with AltQuest
Group:
3,000 introduction emails
30 sell side pitches (phone and in person)
10 sell side engagements won
4 IOIs from strategic/financial buyers

115
As you get better and establish a process, your email conversion rates will go
up and you will be pitching more and your ability to win sell side engagements
will go up. I am at the point now that if a seller is interested in selling, I will
either win the sell side mandate or I will structure it as a buy side deal and
receive the fee from the strategic/financial buyer.
Looking forward to year two, here are the projections:
1,000 introduction emails
50 sell side pitches (phone and in person)
20 (+18 existing = 38 total engagements) sell side engagements won
8 IOIs from strategic/financial buyers
2 closed M&A deals
$110,000 in M&A fees received
The statistics assume that you will be working full time at 40 hours per week
and not working on the weekends.
Regarding fees, here is a simplified understanding of fee structure for sell side
engagements. The key to remember here is that you do not make your money
when you quote your fee, you make your money when you close the deal. The
point is that I would rather win an engagement and give up 1% to 2% of the
fee than have the seller think that I am not being fair. The Lehman scale
simplifies this a bit but often times the seller will want to know the exact % that
they will be paying you.
Large cap – Lehman scale
Mid cap – Lehman scale
Small cap – Lehman scale
Middle market – Double Lehman structure
Lower middle market – 3% to 10%

116

117
Part XI:
The Middle Market
The majority of perpetuities are in what is known as the middle market, a
classification for mid-sized perpetuities. This is where the majority of the
transactions occur and where the average investment banker will make his
living.

118
Chapter 21:
The Middle Market
Because of the wide range of company sizes within the definition, the middle
market can be further broken down into the following:
Lower Middle Market: $5 - $50 million of revenue;
Middle Market: $50 - $500 million of revenue; and
Upper Middle Market: $500 million - $1 billion of revenue.
Overview of Middle Market
We view the middle market as having three distinct segments, defined by a
company's ownership type, prospects, and access to capital. Companies with
EBITDA below about $10 million (lower middle market) are typically family or
entrepreneur owned and individual customer wins and losses greatly impact
performance. Many of those sales relationships are concentrated in the family,
and senior management ranks are often populated with family members. Such
companies are generally well served by local banking relationships,
government-sponsored entities such as Small Business Investment Companies
(SBICs) in the U.S., or public entities such as Business Development
Corporations (BDCs).
At the other extreme, upper middle market companies typically have $75
million of EBITDA or more, and are often publicly held or sponsor backed.
These companies, given their size, typically ebb and flow with their respective
industries. They have myriad options for accessing capital, notably including
the public high yield market. Some institutional investors who are looking to
write large checks ($100 million or more) also participate in this space, though

119
volume is limited. Given the relatively lower yields in this segment, as well as
structural disadvantages such as the lack of maintenance covenants and
limited information rights.
We define the core middle market as companies with $10 to $75 million of
EBITDA and this is the segment where we are most active. Companies are
typically sponsor owned with several opportunities for growth, from taking
share to expanding into related products or new geographies.
Pitchbook defines the middle market as companies with total enterprise value
between $25 million and $1 billion and the “core middle market” as between
$100 million and $500 million.

120
Part XII:
M&A Multiples
It is crucial for investment bankers to understand the M&A marketplace in the
middle market and particularly for the industries that they cover.
It is important for the investment banker to have a strong understanding of
multiples in the M&A marketplace in general and then in his/her sector and
sub-sector. In general in the middle market, we typically see 7x - 7.5x EBITDA
for companies that are larger than $25M in TEV. For companies that are smaller
than $25M in TEV, we typically see 5x - 5.5x EBITDA. There are adjustments
that need to be made for size and predictability of revenues as well as for
certain sectors (ex. software).

121
Chapter 22:
M&A Multiples
Since the investment banker will most likely be starting in the lower middle
market or middle market, it is important to have a strong understanding of the
multiples in the M&A marketplace in general and then in your sector and sub-
sector. The following are 2016 M&A multiples from the data provider,
Pitchbook (Morningstar), that you can use initially. Here are the EBITDA
multiples for transactions in the lower middle market:

122
These are EBITDA multiples for transactions in the middle market:
Finally, we have EBITDA multiples for transactions in the upper middle market:
Notice how the multiples increase as the size of the perpetuity increases due to
the scarcity value of larger perpetuities (increased demand for large
perpetuities and less of them).

123
The following is a chart depicting the average debt to equity breakdown for
LBOs. You will notice that equity levels are steadily increasing, indicating a
tighter credit market:
In this chart, you will see the average time that is it taking for deals to close.
You will notice that the majority of transactions get done in the 5-9 weeks and
10-14 weeks timeframe:

124
Next, the following is a chart that depicts the % of deals getting done with
some aspect of an earnout, meaning portion of the purchase price contingent
on future performance of the business:
Finally, we see a chart depicting activity for the buyers of perpetuities:

125
Part XII:
Investment Banking
Coverage Methodology
It is crucial for investment bankers to understand the M&A marketplace in the
middle market and particularly for the industries that they cover.

126
Chapter 29:
Investment Banking Coverage
Methodology
First, the investment banker is going to choose what size of companies he/she
is going to cover (ex. public co's, middle market, lower middle market). From
there, the investment banker chooses an initial vertical and sub-verticals to
cover. With AltQuest Group, our initial coverage groups were the following:
1. Manufacturing
2. Software
4. Healthcare
After choosing your coverage, the investment banker is then to build an index
for each of the verticals and sub-verticals made up with the public comps. The
index and the changes in the index are going to provide a measuring stick
within which to evaluate targets against.
It is important for the investment banker to have a strong understanding of
multiples in the M&A marketplace in general and then in his/her sector and
sub-sector. In general in the middle market, we typically see 7x - 7.5x EBITDA
for companies that are larger than $25M in TEV. For companies that are smaller
than $25M in TEV, we typically see 5x - 5.5x EBITDA. There are adjustments
that need to be made for size and predictability of revenues as well as for
certain sectors (ex. software).
For those just getting started in investment banking, it is preferable to start
with the lower middle market and middle market building relationships with

The Billionaire Handbook

Recommended

Recommended

More Related Content

Similar to The Billionaire Handbook

Similar to The Billionaire Handbook (14)

More from Michael Herlache

More from Michael Herlache (20)

Recently uploaded

Recently uploaded (20)

The Billionaire Handbook