1 March , 2010
Hey guys – wanted to give you all a heads up that we have set up a new merger/risk arbitrage investing blog: You can visit the blog here: Merger Arbitrage Investing. Enjoy!
31 January , 2010
This is the final series in our posts on hedge fund interviews. In this post, we will talk about the “take-home” case study offered at many hedge funds. As discussed in our last post about hedge fund case studies done at the office, sometimes a fund or other buy-side shop will ask the prospective analyst to do both an at home case study and an in-office case study. In a way this is an advantage as you will be able to showcase your talents in prep work and on the fly. For this post though, we will be exclusively talking about the at home case study.
A lot of what we are going to talk about is similar in form to the case study performed solely at the office. Generally speaking the analysis will not be too dissimilar. You are still going to discuss expectations and valuation and capital structure. But you are going to do it in greater detail, and with greater presentation. Remember, the amount of time given is a key factor in determining how much work to perform: You could be given a week, or maybe a few days. For our purposes, let’s assume you are given the case study, and then given a week to complete it.
Unless otherwise specified, your resources at this point are unlimited. I have yet to hear of fund limiting the applicant’s use of certain resources on a take-home case study (i.e. “You can only use the 10K from last year”). Because you can draw on so much information, you are going to need to go FURTHER to differentiate yourself from other applicants. At this point in the process, there will be probably 2 to 3 other people competing for your position. How are you going to stand out given that the other applicant are probably just as qualified as you?
I would take the first few days given and read as much material on the company as possible: Annual reports, sell side reports, commentary from the internet, proxies, industry magazines, industry studies, competitor’s annual reports, etc. Dig deeper on this one – do searches on the CEO/CFO and see if you can find them speaking anywhere at industry conferences. If there has been a recent change in management, dig into the history of the current CEO/CFO and see how they did at their former position. Were they strong capital allocators? Did they grow just to grow?
After you have beaten every bush out there for information, it is time to start doing some of your own due diligence. This process will depend on the company at hand, but effectively you need to be contacting three types of people 1) Management / IR 2) Competitors 3) Customers/Suppliers/Low-level workers.
Let me discuss each in detail.
Contacting management/IR: After going through mounds and mounds of information, you are bound to have questions. These questions may come from some discrepancies you heard in the last conference call or maybe on a simple accounting concept that you may not quite understand from the most recent 10K. I would suggest first contacting IR and being as friendly as possible with your questions. Do not be adversarial as you want these people on your team. Why? Because unfortunately a lot of times these people are the gate-keepers to the CEO/CFO. At the end of your initial conversation with the IR personnel, you should say something to this effect: “I was wondering if we could set something where I could talk with the CEO/CFO for a few minutes later in the week. I will probably only need 15 or so minutes. You think that could be arranged?” …. Sometimes they will say no. And sometimes they will say yes.
If you get a yes, you obviously need to get moving because your final hedge fund interview
is only 5 days away. If you do get a chance to speak with the CEO/CFO, you will want to ask them some questions about their thoughts on allocating capital, and some thoughts about the future. Even if you only get fluff from them, you have done the hard work speaking to management which will show you go the extra mile during the interview process.
Contacting Competitors: Theoretically, if you play this right, this is where you should get the most information on the company you are doing your case study on. The reason is that people view their industry very differently depending on their relative market shares. Meaning, a #2 competitor in a certain industry will have different thoughts on pricing mechanics, volume trends, future on the industry, than the #1 competitor. Further, a lot of people in the industry know one another, and know one another’s outlook/strategy. Differentiating between these may bring to light certain dynamic trends that would not be readily apparent from simply reading a sell-side report.
When you call these competitors, you are not going to start out by asking about your “case company.” You are going to want to build a rapport with these people by asking them questions about their own company and their own thoughts on the industry. From here you can drop in things like: “How do you think (case company) thinks about pricing over the past few years and what does that mean for you and the industry?” Sometimes, you will again just get a lot of fluff, but every now and then you might get a spiteful SOB that really likes to sock it to his competitors. If I were you, I would call at least three or four competitors. You could get a good number of sound bites/relevant information that you could use when presenting your case. Again, even if the information you draw from these conversations is different from what your interviewers want to hear, you are showing you have gone the extra distance in seeking out information.
Finally, supplier, customers, and lower level workers: This is by far the hardest of the process, and requires the most amount of pushing yourself to dial the numbers and asking questions. You will be hung up on. You may not get any information that is relevant to your case study. But on the off-chance that you do get information, this information could be game-changing. For example, I once called up a number of customers for a company that manufactures pipes used in infrastructure construction. Every one of them told me that their orders were being pushed back because of state/municipal budget deficits and they had no idea when spending would return. Now this information is good – but it becomes great when management is telling the analyst / sell side community that orders have no slowed down as of yet. Was the CEO lying? Probably not – he was probably just relaying what his COO was telling him – who was relaying information his subordinates were telling him, etc, etc. A lot can be lost in translation when there are five or six layers between the sales force and the CEO.
Effectively, the analyst community and management is setting expectations that are no way close to reality – and that’s when the information becomes GOLD.
The question then becomes – who to call? In honesty, I think it depends on the industry. Hopefully, when you spoke to management and their competitors you got same names of people you could follow-up with. If not, industry magazines / rags and Google searches will save the day. If it were a retailer, I would call up 30 of the stores and just chat up the customer service professionals. If it were a tech company, I would contact some of their larger distributors or suppliers. Just keep dialing – give it a few hours at least – if you can’t seem to be breaking any ground – you at least put in the effort.
Now you are equipped with LOTS of information – How are you going to distill it down into something presentable. As before, we want to come up with what the market expectations are for our company, and want to present information that conflicts / supports those expectations. As in the hedge fund case study you perform at the office
, you want to understand the drivers of a business and then model those drivers out. The market, generally set by the sell-side, will have expectations for a company’s volume, or sale per square foot, or whatever the drive may be. Hopefully, the qualitative information you collected from management, competitor, suppliers, will give you better insight into those drivers than your peers.
You then build the model. If I were you, I would do a full-blown income statement, balance sheet, and cash flow working model. This model should be heavily footnoted with assumptions on things like days sales outstanding, deferred tax assumptions, etc. Doing a three-statement model shows competency in excel. Make sure the formatting looks like a banker spent a few solid all-nighters on it as well.
Equipped with the model and your drivers, you can then build up valuation metrics. I would do all three of the big ones: Comps, Precedent Transactions, and a Discounted Cash Flow. For comps, do all the relevant ones to the industry. For precedent transactions, look at as many recent proxies in the industry as possible – reference / footnote these as well. And for discounted cash flow, make a sensitivity matrix with discount rates and terminal values to show that you understand that DCF’s are simply approximations.
With valuation and model in tow, I would slap together two pages at most – with lots of bullet points with your thesis and why you think the stock is over or undervalued. If you come up with the valuation being “uncertain” i.e. a hold – then look for somewhere else in the capital structure that may be appealing. I have never really liked it when potential applicants come in and give basically a “No Opinion” – Yes, there are times when a stock price is accurately reflecting all information out there – but this isn’t just a random stock – this is a stock that was given to you where the fund probably has some preconceived notions about – I doubt they would give you something they have not already looked at.
With your thesis, valuation, and model in tow, you are ready to present. You may want to also have a handout backing up your assumptions on drivers versus the market expectations. On this, you would lay out some of the conversations you had with management/competitors/customers etc, with as many quotes as possible. Again we are trying to distinguish you from YOUR competitors in this hedge fund interview process.
As I wrote in the previous post: “After you have presented your hedge fund case study, you will be barraged with questions. You will not know the answer to every single question, but you should the majority. If you do not know the answer to the question, do not make up an answer.”
Again – this is true – but I would not give the same reason – I would try to re-frame the question into something you do recall from a 10K – Further, you should bring as much reading material with you as possible – this material should be earmarked, highlighted, etc for this specific reason – so that if you do get pressed for an answer – you will be able to come up with one.
And remember – you have done the hard work – now its just time to close the deal – and get hired into that hedge fund job you’ve been working so hard for.
2 January , 2010
This is the third edition of our series on hedge fund interviews.
For part 1 and part 2 of the series:
This post will discuss probably the most crucial part of the entire interview process: the final case study. This case study will either be “in-office” or prepared at home. This post we are going to focus in on the in-office case study, and for the final post of the series, we will discuss the take-home case study.
In-office case studies:
This is where the hedge fund or buy-side institution will tell you before hand that when you come to the office you will be given X number of hours and a certain amount of materials (10Ks, recent conference calls, sell-side reports), and then you will need to prepare an investment recommendation. You may be given Excel, or maybe a Bloomberg, or maybe just some paper to work your thoughts out on.
These case studies can last anywhere from 1 hour to 3 hours (I have heard of more, but never been subjected to them…thank the hedge fund gods). They are intense and stressful – especially when you consider how far you’ve come in the interview process – and that the whole outcome of the hiring may depend on where you come out on the case.
I am going to assume for the extent of the post that you have been given Excel but no Internet access – you are only given a stack of papers and a stock price. Here is how I would approach a similar situation:
- Read as much of the material as humanly possible. No, this does not mean you have to read every single clause of a credit agreement, or every single line of a 10K. You should have enough experience at this point to know what you can skip over and what you cannot skip over. I rarely skip over the 10K footnotes because that is where you can find information that is not being readily appreciated by the market (for the positive or the negative).
- Once you have the material read, you should have some kind of understanding what the market is anticipating via a sell-side report or a Q/A session from recent conference calls. You can use the estimates from the sell-side report to get a sense of where market consensus for top-line and bottom-line figures are and you can use the Q/A session to get a feel for what qualitative concerns market participants have for the company. For example, if someone on a recent conference call asks: “So, what is the timeline for the new casino opening and how confident are you that you will be able to open on time?” … That analyst and probably a bunch of buy-siders who called to ASK that analyst are worried that delays/cost-overruns might push back a project and hence the estimated earnings and cash flow in future quarter. Write the pertinent questions / concerns down.
- You then want to identify the main drivers of both business performance. Really it should only boil down to two or three extremely relevant line items. For example, for a wireless company it could be # of subscribers and ARPU.
- With concerns and drivers in hand, you will now set out to build your model / valuation sheet. If you can build a three statement model in an hour or so, well then by all means do it, but I suggest really focusing on those two or three drivers you identified above, and zeroing in on them and determining how they affect cash flows and earnings. This model should also include things like: capital structure, liquidity, and pertinent covenants. It should also break down the businesses if the company has two or three business lines….why? Because hedge funds love sum-of-parts analysis.
- With the model in hand, you now need to go about and value the business. If I were you, while I would definitely talk about things like P/E, I would spend much more time on business specific valuation metrics, such as value/subscriber or EV/room key. If you have them, use comps in this segment, and comp these business specific segments of your case company to its competitors. Finally, and as noted above, hedge funds love sum-of-parts analysis. When you value a business using sum of parts, you always want to create a company at some level. For example, if XYZ business has three business lines, what I would do is value business A, then value business B, and then figure out where the market is creating business C (it doesn’t have to be in that exact order, but you get the idea). If the market is creating business C at an absurdly low multiple relative to peers, well maybe you have an undervalued business.
- Ok. So you have a model, and a valuation…from here I would clean everything up so it can fit on two pages. Now you fill in with qualitative information: Quick overview of what company does, management’s record on capital allocation, description of business lines, any major corporate actions in the past (spin offs or bankruptcy filings for example). You then list your thesis … i.e. a 4 or 5 sentence paragraph of why the company’s stock is cheap or overvalued. This should take into affect the market expectations and drivers you narrowed down earlier in the exercise. For example (maybe a wireless company): At $15/share, the market is anticipating declining margins and top line growth at XYZ company. While top line growth may be slowing, cost per gross user addition [driver] and fixed costs in the form of salaries employees per subscriber is declining. This will enable XYZ company to boost operating margins to levels far above where the market is anticipating. Even if margins stay flat to where they are today, sales would have to drop 15% a year for the next three years to justify current trading multiples. With increasing margins, and a more reasonable decline in sales, combined with a market multiple, the stock of XYZ should trade to $25/share. Your Excel model, combined with valuation metrics, should be able to justify this valuation with a pretty strong margin of safety.
- After the thesis is in tow, you should add some qualitative strengths and weaknesses for the company. You should know these by now, but if not, look back on the concerns / comments the sell-side had during the Q/A
Ok. Case study completed. Three hours is up. Time to present your case study to your interviewers / investment committee. Now, I’ve had situation where it is just me and a few other analysts / PM or in other cases where it is the entire front-office – founder of fund all the way down to the execution traders. I think this really depends on the culture of the firm: I personally would like to see everyone there which shows me that the team is a cohesive entity without a few people call every single shot.
While you want to take your time in the presentation of the case, you do not want to go into every gory detail. You give a quick overview of the company, and its business lines. You talk about what the market is concerned about. You give a valuation. And then you give them your thesis. You back up your thesis with the Excel file that all of the interviewers should have in their hand at this point. Talk about where you are creating the company, talk about WHY you think the market is wrong in anticipating margin declines, talk about HOW the market is missing XYZ factor. Even if you only have a 10K to work with, you should bring to light things that even those that have read the same annual report may have missed.
Why? They want to see your attention to detail. To be honest, given a 10K and a few conference calls, I could reasonably argue for the bull or bear case of any situation you could throw at me. In my experience, the opinion really does not matter all that much (unless of course its the funds largest position). What matters is the process and how you think about the situation.
Something I have not mentioned above, but you should have a reasonable understanding how the fund you are interviewing looks at companies. Do research. Read Value Investor Insight, or other interviews with the principals of the hedge fund to see how they think about situations – are they a GARP shop or a deep value, hidden catalyst shop. You may want to think about at least tossing in this methodology when you do your case study. But I caution: Do not become a clone…these people want to bring on analysts that are smart, can think on their feet, and can bring diverse experience and opinions to the mix.
After you have presented your hedge fund case study
, you will be barraged with questions. You will not know the answer to every single question, but you should the majority. If you do not know the answer to the question, do not make up an answer. Say: “To be honest with you, I’ll have to get back to you on that – I would like to read a few more 10Qs
or conference calls to get a better sense of the issue you are asking about” When you answer, always draw examples from previous situations you have encountered in the past where you might have substantially more experience and hence are bringing the case study back on “home court.” But most importantly, be confident in your work and your self. You made it this far, now all you have to do is bring it home.
Stay tuned next time for our final series on hedge fund interviews. This will finish what I had initially set out to accomplish for the how to get a hedge fund job blog
. After that post, I will be announcing a new offer to readers to help them in the hedge fund job search process. Stay tuned for that as well.
23 November , 2009
In our last post, we talked about the first round of a hedge fund interview
. This post assumes you have made it to the second or third round of the interview processes (i.e. your hedge fund resume has already been finely scrutinized). I have heard of funds that go five or six rounds and others that go three rounds (first round = intro, second round = more intense, third round = case study). Nonetheless, the rounds following the first “meet and greet” round will be much more intensive challenging both your intellect and your ability to get along with others (along with your ability to think on your feet). It will also be the time where the possible hedge fund ranks you in relation to the other candidates in which you are competing. This is where the fund begins in the quest to secure a hedge fund job.
Generally speaking, in the second round you will meet more people you did in the first round. If the fund is small, you may meet the entire front-office investment team. Each of these people may even be allocated some time to grill/quiz/feel you out. The interesting thing about hedge fund careers is that many people have taken different routes to get to their position. And that will influence how they interact with interviewees. Some may pose highly technical finance interview questions (“Calculate the economic pension expense and relevant adjustments to the cash flow statement”) and some may pose truly “softball” questions that you should, if you have read anything I have written, be able to knock out of the park.
During the second round, you will probably again sit down and talk with your main “contact” at the fund. This should be a friendly meeting and you should call back some of the things you talked about in the first conversation. For example, if the interviewer had told you he/she was working on a particular investment idea, ask for an update. You need to show these people that you live/die/breathe/eat/sleep investing. You want to show that you are curious and like to solve the puzzles that the world of finance in its asymmetric information pose to us on a daily basis.
From here, you then will begin to meet other members of the team. Approach these interviews exactly like you did in the first round – try to get a conversation instead of an interview. Showcase your knowledge of certain investments with logical and clear arguments. They will pose questions, most likely ones that threaten your underlying thesis. They do this because this is how investment committees function – an analyst presents an idea, and the other people try to rip it apart. As they say in sales: “Know how to handle objections” – in this case the counterarguments to your thesis.
Sometimes interviewers will ask technical questions. These should be easy if you have read my other blog or have any practical experience in the field of investing. I have always suspected that these questions were more used to filter people with high levels of educational clout on their resume but little real world experience. That being said, be prepared for them. These questions could be anything from “Calculate Free Cash Flow to the Firm” to “How can you determine a companies’ maintenance capex in a deflationary world?” You should know the answers to these questions – especially as they relate to your case study that you presented with your hedge fund resume. If you were a hedge fund analyst in your past, these are the kind of questions you had to ask on the job and the senior analysts rolled their eyes at and reluctantly answered.
Hedge fund recruiting, especially from an interviewer’s standpoint, is difficult. Think about it: A hedge fund analyst’s salary can range anywhere from $100,000 to $300,000 depending on the years of experience. That is a pretty big nut. And you are expected to make a choice on this person in 3-5 meetings which maybe span 10 hours.
So how do you improve your chances you do not pick a hedge fund analyst failure? You call contacts that you may have at the interviewees past experiences. Let’s say a junior banker at DB wants to jump to the buy-side. He makes it past the first round hedge fund interview (using techniques described in the last post). At the second round the stakes are raised – so the hedge fund starts calling people that they know working in banking at DB to get a sense for their potential new star. The comments they get about you will form the basis for the questions they will ask you in subsequent rounds. If someone tells me this junior DB banker has problems with detail, I will pose questions that will zero in on this, because the last person I want to hire is someone who forgets to carry the 1 in a DCF or comp sheet. Banking careers, or any finance career for that matter, really hinges on networks of people and your value to those people. A hedge fund cover letter or hedge fund case study is not going to benefit you in this stage of investment management recruitment – your network will though.
So, you have met with three or four of the other front office people at this point. As noted above you want to make these more like conversations and not interviews. Definitely talk about the job role that each of them perform at the fund – whether that be industry coverage, or certain products a trader may trade. Exploit what you know.
Remember, after the interview, they will talk about you – they will comment on any little flaw they can if you are not “their #1 choice.” Everyone has a favorite, and at the end of the day, the leader of the pack will make the decision – but the subordinates’ opinion weighs heavily on whoever is making the hiring decision – and thus you want to be every one’s #1 choice. Things I have heard my own coworkers say these complaints about for interviewees:
- “He was nervous”
- “She had a little bit of weirdness to her”
- “I do not think he will get along with XYZ person at the fund”
- “Maybe a little too cocky”
- “He had no idea what he was talking about”
- “She talked in generalities and just would not focus in on the specifics”
Etc, Etc, Etc. The point is – you will not be perfect in every one’s eyes – but you should be pretty darn close.
Nail the technical questions, keep it a two way conversation (instead of a real interview), exploit what you know, and you should get the callback for the next round, which is the dreaded hedge fund case study. That will be the subject of our next post
19 October , 2009
This is going to be the first part in a series of posts on the in’s and out’s of interviewing at a hedge fund – more specifically, what actually goes on during a hedge fund interview. Oftentimes, I get emails asking what sort of hedge fund interview questions to expect or if I have any hedge fund interview tips.
A hedge fund interview is really a series of interviews. This post assumes that you have made it past the resume filtering stage and that you have an interview scheduled and ready to go. If you remember if a previous post, Hedge Fund Case Studies
, I suggested you prepare a comprehensive case study and attach that to your resume when you send it off.
The benefits are numerous to this approach. But one stands out when preparing for the hedge fund interview: You have just given yourself an advantage in terms of questions the interviewers will ask. Upon reading the case study, the interviewer will generally try to outfox you with questions related to the subject companies industry, or management, or historical trends etc. You should know all this cold and furthermore enlighten them with new, fresh information that cannot be found in sell-side reports.
So what to expect at your hedge fund interview. Depending on the shop, as I have interviewed at a fund with many billions of assets and at a fund with less than $50M of assets, you will probably meet with a few senior analysts, a portfolio managers, and if the fund is really big, an HR person.
In my opinion, the HR person has effectively very little say on the hiring process. They will ask you layup questions like “What are you hoping to get out of this opportunity” and provide you with basic information about the job / specifics etc. These ‘fluff’ interview questions, which sometime appear in interview guides, are in my opinion, worthless. If an HR person asked me what my goals were, and I said, “To fly to Mars in a hot air baloon“, I do not think that would derail my hiring chances if I blew the analyst / PM away. Only slightly kidding.
That is a long-winded way to say, don’t worry about the qualitative nonsensical questions. Just don’t come off as a nut-job and you should be ok.
So the real test comes when you start to sit down with some analysts or a portfolio manager. This post really relates to the first interview and as mentioned above, who you meed with on the first day will change with asset size / availability of the PM. If you think you will walk into Harbinger at Round 1 of the interview process, and chat it up with Phil Falcone, I believe you are mistaken.
The first thing you want to do is to get into a rapport with the person you are interviewing with. No one just likes sitting around and asking a person he / she just met a series of questions. You should get into a DIALOGUE with the person sitting across from you. Talk about what industries he/she is covering. If you feel you are reasonably well acquainted with the industry, talk about some metric or trends currently showing up in the earnings of the companies in the industry. Talk about buy-side or sell-side contacts you might know that also cover the industry. If you have no idea about anything related to the industry, change topics to an industry that you do know a lot about, using phrasing such as… “The health care industry? Interesting. The CEO of ‘XYZ Company I know a lot about’ used to work at ‘ABC Company in the Health Care Industry’…and then just start plowing about a topic you know a lot about.
Too many times, someone will come into the office and interview and talk about something that he/she should not be simply because of lack of knowledge. Don’t try to impress me with your rudimentary knowledge of LCDX or CDX relative recovery value that you read off a sell side report a few weeks ago. Put the ball in your court on something that you can add value to.
For example, as discussed in my main blog, I used to be the Enron analyst at a previous fund. I spent so much time on Enron, while it was in bankruptcy, it makes me cry. When I started looking for a new job at a larger fund, I always dovetailed the conversation back to Enron. I would not bog the interview down with disturbing details on double dip claims or the relative attractiveness of the Class 4 with S vs the Class 4 w/o S but I would talk generally about the topic to showcase that understood the situation very well and if called into question, I could defend my position handily.
So you are establishing rapport with this person, talking about thing that you have knowledge of. From here, you should try establishing if the two of you have any acquaintance / friend in common. This doesn’t have to mean you two are Linked In buddies … it more means that you are finding a common ground with this person. For example, let’s go back to the Enron example. Many times the Enron analysts at the distressed desks of major investment banks also covered a few other situations. Maybe it was Worldcom/MCI or something like Conseco or Finova. By establishing a similar network, this person interviewing you can call up this contact in question to check you out. You, in the meanwhile, will also call this connection, and will say “Oh. I met XYZ person at ABC fund yesterday. Said you two worked on Conseco together. Etc Etc.” This is also another check for the interviewer that you are a decent person that will work well on the team.
Now, at some point, this person will ask you questions. In my past experiences, these questions will fall into one of five broad categories. Here are the categories and examples, in decreasing order or frequency…i.e. #1 = you will always see:
- Personal Experience Questions: Give me a 5 minute run down of your education and past experiences? What was it like working on a trading floor? Did you enjoy investment banking? How were portfolio decisions made at your old shop? What industries have you worked in? Etc.
- Case Study Questions: How did you go about your research? Did you talk to management and if so, what did they say? Who are the competitors and what is the margin structure of the industry? What do the covenants look like?
- Views on the Market/Individual Stocks: What do you think about the market? Have you looked at XYZ Situation? What do you think about it? Where are interest rates going? Any sectors you currently bearish/bullish on? Any stocks you like here? (as an aside, above all single questions, that is the most frequent one of the whole list)
- Technical Knowledge: How do you calculate FCF? How do you calculate the cash conversion cycle? Do unsecured note holder want a high or low valuation in a bankruptcy? What is fraudulent conveyance? Etc.
- How you think Questions: Why are manhole covers round? How many Christmas Trees are sold in the United States? If you had two companies with identical capital structures, how would you decide which one to invest in? What is the most important thing you look for on the balance sheet?
Rapport has been established. Questions asked. You should have impressed him/her by now and they probably should already think you deserve a round #2. They will then ask if you have any questions for them. Yes. You always have questions for them. The questions I always ask:
- How does an analyst get ideas in the book? Is there a give and take with the PM, group discussions? How is the idea generation process performed? Etc.
- If they have not already delved into it, the history of the fund and its founders and the background of the interviewer.
- Historically, what has distinguished the people succeed in the culture of the firm and moved up their responsibility?
In the next two parts of this series, we will discuss the more in-depth, and usually technically second round, and finally what to expect for the at-home or in-office case study.