Series 86 — Research Analyst Qualification Examination (Part I) Cheat Sheet

Use the tables for a quick pre-exam check. Expand a topic’s notes for explanations, examples, and additional distinctions.

Exam Focus Snapshot

This Cheat Sheet supports preparation for FINRA’s Series 86 — Research Analyst Qualification Examination (Part I), exam code Series 86. It emphasizes the analytical skills a research analyst needs: financial statement analysis, valuation, economics, industry/company analysis, quantitative methods, and security analysis.

Notes and examples

Part I distinction: Series 86 is the analytical portion of the research analyst qualification path. Do not treat it as a pure rules exam. Regulatory communications and supervisory topics are primarily associated with the separate research analyst regulatory component.

Core Formula Sheet

Time Value, Return, and Growth

\[ PV = \frac{FV}{(1+r)^n} \]\[ FV = PV(1+r)^n \]\[ NPV = \sum_{t=1}^{n}\frac{CF_t}{(1+r)^t} - Initial\ Investment \]\[ CAGR = \left(\frac{Ending\ Value}{Beginning\ Value}\right)^{1/n} - 1 \]

Cost of Capital and Risk

\[ r_e = r_f + \beta(r_m-r_f) \]\[ WACC = w_d r_d(1-T) + w_p r_p + w_e r_e \]

Equity Valuation

\[ TV_{\text{Gordon}} = \frac{FCF_{n+1}}{WACC-g} \]\[ Value\ of\ Equity = Enterprise\ Value - Net\ Debt - Preferred\ Stock - Minority\ Interest + Nonoperating\ Assets \]\[ Diluted\ EPS = \frac{Net\ Income - Preferred\ Dividends}{Weighted\ Average\ Diluted\ Shares} \]

Notes and examples

Formula Quick Sheet

Concept	Formula
Gross margin	Gross profit / Revenue
Operating margin	EBIT / Revenue
Net margin	Net income / Revenue
ROE	Net income / Average equity
ROA	Net income / Average assets
Asset turnover	Revenue / Average assets
Current ratio	Current assets / Current liabilities
Quick ratio	Cash + marketable securities + A/R / Current liabilities
Debt-to-equity	Total debt / Total equity
Interest coverage	EBIT / Interest expense
Basic EPS	Net income minus preferred dividends / weighted average common shares
FCFF	EBIT(1 - tax rate) + D&A - capex - change in NWC
FCFE	CFO - capex + net borrowing
Enterprise value	Equity value + debt + preferred + minority interest - cash
Equity value	Enterprise value - debt - preferred - minority interest + cash and nonoperating assets
P/E	Price per share / EPS
EV/EBITDA	Enterprise value / EBITDA
CAPM	Risk-free rate + beta × market risk premium
WACC	Weighted cost of equity and after-tax debt
Gordon growth	D1 / (r - g)
NPV	PV of future cash flows minus initial investment

Financial Statement Linkages

Notes and examples

Income Statement Reference

Line item	Interpretation	Analyst focus
Revenue	Top-line sales recognized during period	Organic growth, price vs volume, recurring vs one-time
Gross profit	Revenue minus COGS	Product economics and input cost pressure
SG&A	Selling, general, administrative costs	Scalability and cost control
R&D	Investment in future products or services	Expensing may depress current earnings
EBITDA	Earnings before interest, taxes, depreciation, amortization	Proxy for operating earnings, not free cash flow
EBIT	Operating income before financing and taxes	Better for comparing capital structures
Pretax income	Income before tax expense	Affected by operating and financing decisions
Net income	Earnings after all expenses	Basis for EPS, but may include nonrecurring items
EPS	Earnings per share	Use diluted EPS when dilutive securities exist

Margin	Formula	What it reveals
Gross margin	Gross profit divided by revenue	Pricing power and production efficiency
EBITDA margin	EBITDA divided by revenue	Operating cash earnings before capex and working capital
Operating margin	EBIT divided by revenue	Core operating profitability
Pretax margin	Pretax income divided by revenue	Operations plus financing effects
Net margin	Net income divided by revenue	Overall profitability after all expenses

Balance Sheet Reference

Account	What increases it	What decreases it	Analytical signal
Cash	CFO, asset sales, debt/equity issuance	Capex, debt repayment, dividends, buybacks	Liquidity and optionality
Accounts receivable	Credit sales	Customer collections	Rising faster than sales may signal collection risk
Inventory	Purchases or production	COGS recognition	Rising inventory may signal demand weakness
PP&E	Capital expenditures	Depreciation, disposals	Capex intensity and asset age
Goodwill	Acquisitions above fair value of net assets	Impairment	Acquisition history and impairment risk
Accounts payable	Purchases on credit	Vendor payments	Supplier financing and working capital management
Debt	Borrowing	Principal repayment	Leverage and refinancing risk
Shareholders’ equity	Net income, issuance	Losses, dividends, buybacks	Book value and capital base

Cash Flow Statement Reference

Cash flow section	Includes	Does not include	Interpretation
CFO	Cash from operations, working capital changes	Capex and debt issuance	Core cash generation
CFI	Capex, acquisitions, asset sales	Operating expenses	Investment intensity
CFF	Debt issuance/repayment, equity issuance, dividends, buybacks	Operating cash receipts	Capital structure decisions

Metric	Formula	Use
Free cash flow	CFO minus capital expenditures	Cash available after maintaining/growing asset base
FCFF	EBIT after tax plus D&A minus capex minus increase in working capital	Enterprise-level cash flow
FCFE	CFO minus capex plus net borrowing	Equity-level cash flow
Cash conversion	CFO divided by net income	Earnings quality indicator
Capex intensity	Capex divided by revenue	Asset intensity and reinvestment needs

FCFF vs. FCFE

Concept	Belongs to	Discount rate	Starting point	Best use
FCFF	All capital providers	WACC	EBIT after tax	Enterprise value
FCFE	Common equity holders	Cost of equity	CFO or net income	Equity value
Dividends	Equity holders receiving dividends	Cost of equity	Expected dividends	Mature dividend-paying companies

FCFF formula:

\[ \text{FCFF} = \text{EBIT}(1 - T) + \text{D\&A} - \text{Capex} - \Delta \text{NWC} \]

FCFE formula:

\[ \text{FCFE} = \text{CFO} - \text{Capex} + \text{Net Borrowing} \]

High-yield cash flow traps:

• Depreciation is added back because it reduced accounting earnings but did not use current-period cash.
• Capex is subtracted because it is a cash investment, even though it may not immediately hit the income statement.
• An increase in net working capital is subtracted because it ties up cash.
• Interest treatment matters: FCFF is before payments to debt holders; FCFE is after debt-related effects.
• EBITDA is not free cash flow: it ignores capex, taxes, working capital, and often cash interest.

Ratio Analysis Quick Tables

Liquidity and Working Capital

Notes and examples

Profitability and Returns

\[ ROE = \frac{Net\ Income}{Sales} \times \frac{Sales}{Assets} \times \frac{Assets}{Equity} \]

Ratio	Formula	Interpretation
ROA	Net income divided by average assets	Profit per dollar of assets
ROE	Net income divided by average equity	Profit per dollar of equity
ROIC	NOPAT divided by invested capital	Return on capital used in operations
Gross margin	Gross profit divided by revenue	Pricing and production economics
Operating margin	EBIT divided by revenue	Operating efficiency
Net margin	Net income divided by revenue	After-tax profitability
Asset turnover	Revenue divided by average assets	Asset efficiency
Equity multiplier	Average assets divided by average equity	Financial leverage

DuPont logic: ROE can rise from better margins, faster asset turnover, or more leverage. Higher ROE is not always better if driven mainly by excessive leverage.

Leverage, Solvency, and Coverage

Ratio	Formula	Higher means	Exam interpretation
Debt-to-equity	Total debt divided by shareholders’ equity	More leverage	Increases financial risk
Debt-to-capital	Debt divided by debt plus equity	More debt in capital structure	Useful for capital mix
Net debt	Debt minus cash and equivalents	Debt after cash offset	Used in enterprise-to-equity bridge
Net debt to EBITDA	Net debt divided by EBITDA	More leverage relative to cash earnings	Common credit metric
Interest coverage	EBIT divided by interest expense	Greater ability to pay interest	Lower ratio signals distress risk
Fixed charge coverage	Earnings available for fixed charges divided by fixed charges	Broader coverage measure	Includes lease-like or fixed obligations if specified

Market and Valuation Multiples

Multiple	Formula	Best for	Key consistency rule
P/E	Price per share divided by EPS	Profitable equity valuation	Equity value over equity earnings
PEG	P/E divided by earnings growth rate	Growth-adjusted P/E comparison	Growth rate units must match convention
P/B	Price per share divided by book value per share	Financials, asset-heavy firms	Book value must be meaningful
P/S	Price per share divided by sales per share	Low-margin or early-stage companies	Ignores profitability
EV/EBITDA	Enterprise value divided by EBITDA	Capital-structure-neutral comparison	Enterprise value over pre-interest metric
EV/EBIT	Enterprise value divided by EBIT	More depreciation-aware than EBITDA	Useful when D&A differences matter
EV/Sales	Enterprise value divided by revenue	Unprofitable companies	Must evaluate margin potential
Dividend yield	Annual dividend divided by price	Income-oriented stocks	High yield may signal dividend risk

Common Multiples

Multiple	Numerator	Denominator	Best suited for	Trap
P/E	Equity value per share or market cap	EPS or net income	Profitable companies	Affected by capital structure and nonrecurring items
PEG	P/E	Earnings growth rate	Growth comparisons	Growth estimate quality matters
EV/EBITDA	Enterprise value	EBITDA	Operating comparisons across capital structures	Ignores capex and working capital
EV/EBIT	Enterprise value	EBIT	Operating comparisons including D&A	D&A policy can distort
EV/Sales	Enterprise value	Revenue	Early-stage or low-margin firms	Does not capture profitability
P/B	Equity value	Book equity	Banks, insurers, asset-heavy firms	Book value may be stale
Dividend yield	Dividend per share	Price per share	Income-oriented mature firms	High yield may signal distress

Numerator/Denominator Matching

If denominator is…	Use numerator…
Revenue	Enterprise value
EBITDA	Enterprise value
EBIT	Enterprise value
Net income	Equity value
EPS	Share price
Book equity	Equity value
Dividends per share	Share price

High-yield rule: cash flows available to all capital providers pair with enterprise value; cash flows available only to common shareholders pair with equity value.

Interpreting Multiple Differences

A higher multiple may be justified by:

• Higher expected growth
• Higher margins
• Better return on invested capital
• Lower business risk
• More predictable cash flow
• Stronger competitive position
• Lower capital intensity
• Better corporate governance or management execution

A lower multiple may reflect:

• Cyclicality
• High leverage
• Declining margins
• Customer concentration
• Regulatory or litigation risk
• Weak cash conversion
• Poor earnings quality

Valuation Decision Guide

Notes and examples

DCF Build Checklist

1. Forecast revenue drivers: price, volume, units, subscribers, utilization, market share.
2. Forecast margins: gross margin, SG&A, R&D, operating leverage.
3. Estimate taxes: use sustainable cash tax assumptions where appropriate.
4. Model reinvestment: working capital, capex, depreciation, amortization.
5. Calculate FCF: distinguish FCFF from FCFE.
6. Select discount rate: WACC for FCFF, cost of equity for FCFE.
7. Estimate terminal value: Gordon growth or exit multiple.
8. Bridge to equity value: subtract net debt and other senior claims.
9. Divide by diluted shares: use appropriate share count.
10. Sensitivity test: discount rate, terminal growth, margins, revenue growth.

Terminal Value Traps

Trap	Correct approach
Terminal growth exceeds long-term economy indefinitely	Use a sustainable long-run growth assumption
Mixing exit multiple and Gordon growth without reconciliation	Cross-check implied multiple and growth assumptions
Discounting terminal value incorrectly	Discount terminal value back to present value
Using EBITDA multiple on equity value	EV/EBITDA produces enterprise value
Forgetting net debt	Enterprise value is not equity value

Accounting and Quality of Earnings

Notes and examples

Earnings Quality Red Flags

Red flag	Why it matters
Net income growing faster than CFO	Earnings may be accrual-driven
Receivables growing faster than revenue	Potential collection or recognition issue
Inventory growing faster than sales	Potential demand weakness or obsolescence
Frequent “one-time” charges	Normalization may be too aggressive
Margin expansion without clear driver	Could reflect accounting, mix, or cost timing
Large related-party transactions	May not reflect arm’s-length economics
Heavy reliance on adjusted EBITDA	May exclude real recurring costs
Rising leverage with flat earnings	Higher solvency and refinancing risk

Earnings Quality Checklist

Signal	Better-quality interpretation	Warning interpretation
Net income and CFO both rising	Earnings backed by cash	Stronger confirmation of performance
Net income rising, CFO falling	Possible timing issue	Receivables, inventory, or aggressive recognition concern
Repeated “one-time” charges	Maybe restructuring phase	Could be recurring economics disguised as nonrecurring
High EBITDA, weak FCF	Growth investment or working capital build	EBITDA may overstate economic cash generation
Margin expansion	Pricing power, scale, cost control	Underinvestment, capitalization of costs, temporary cuts
Large goodwill/intangibles	Acquisition strategy	Potential impairment risk if performance weakens

Equity Security Analysis

Notes and examples

EPS and Share Count Traps

Scenario	Correct analytical treatment
Share repurchase	Reduces shares; may increase EPS even without operating improvement
Option exercise	Adds shares and potential cash proceeds under treasury stock logic
Convertible debt	If dilutive, add back after-tax interest and add conversion shares
Preferred conversion	If dilutive, add back preferred dividends and add conversion shares
Loss-making company	Potential shares may be anti-dilutive
Buyback funded with debt	EPS may rise while leverage and interest expense increase

Fixed Income and Credit Reference

Notes and examples

Rate or credit event	Typical bond price impact
Interest rates rise	Bond prices fall
Interest rates fall	Bond prices rise
Credit spread widens	Risky bond prices fall
Credit spread narrows	Risky bond prices rise
Duration increases	Greater price sensitivity
Call likelihood increases	Upside price may be capped near call price
Credit rating deteriorates	Spread usually widens and price falls

Economics, Industry, and Company Analysis

Macro Indicator Effects

Notes and examples

Industry Structure Checklist

Factor	Question to ask	Analyst implication
Barriers to entry	Can new competitors enter easily?	High barriers support margins
Supplier power	Can suppliers raise input costs?	High supplier power compresses margins
Buyer power	Can customers demand lower prices?	High buyer power limits pricing
Substitutes	Are alternatives available?	Substitutes cap growth and margin
Rivalry	Is competition price-based?	Intense rivalry reduces returns
Regulation	Are prices, returns, or operations constrained?	Affects growth, margins, and risk
Technology change	Can products become obsolete quickly?	Shortens forecast visibility
Operating leverage	Are fixed costs high?	Earnings more sensitive to revenue changes

Sector Sensitivity Reference

Sector type	Typical characteristics	Analytical focus
Cyclical	Earnings tied to economic cycle	Normalize margins and earnings
Defensive	Demand stable across cycles	Dividend sustainability and valuation premium
Financial	Leverage is core to business model	Credit quality, capital, net interest margin
Commodity-linked	Revenue tied to commodity price	Cost curve, reserve life, hedge position
Technology/growth	High reinvestment and scalability	TAM, retention, unit economics, dilution
Utilities	Regulated returns and high debt	Rate base, allowed return, interest rate sensitivity
Real estate	Asset values and financing costs matter	NOI, cap rates, occupancy, leverage

Macro Variables

Variable	Typical equity impact	Sector sensitivity
Interest rates rising	Higher discount rates, pressure on long-duration assets	Growth stocks, housing, utilities, banks
Inflation rising	Higher nominal revenue but margin pressure if costs cannot be passed through	Consumer, industrials, commodities
Currency strengthening	Hurts translated foreign revenue for domestic exporters	Multinationals
Currency weakening	Can help exporters but raise import costs	Manufacturers, retailers
GDP growth slowing	Lower demand and earnings expectations	Cyclicals, industrials, discretionary
Commodity prices rising	Benefit producers, pressure users	Energy, materials, airlines, chemicals

Business Cycle Review

Phase	Typical characteristics	Equity research focus
Expansion	Rising demand, improving earnings	Operating leverage and growth sustainability
Peak	Capacity pressure, inflation risk	Margin sustainability and valuation risk
Contraction	Falling demand, earnings pressure	Balance sheet strength and downside cases
Trough	Weak current earnings, improving expectations possible	Recovery potential and normalized earnings

Industry Structure

Porter-style competitive forces are useful for research analysis:

Force	Question to ask	Valuation effect
Rivalry	Are competitors aggressive on price?	High rivalry pressures margins
Threat of entrants	Are barriers to entry strong?	Strong barriers support returns
Supplier power	Can suppliers raise input costs?	High supplier power compresses margin
Buyer power	Can customers demand lower prices?	High buyer power reduces pricing power
Substitutes	Can customers switch to alternatives?	Substitutes limit growth and margins

Quantitative Methods

Descriptive Statistics

Notes and examples

Probability and Normal Distribution

Concept	Practical meaning	Trap
Expected value	Probability-weighted average outcome	Not necessarily the most likely outcome
Standard deviation	Dispersion around expected value	Does not show direction
Confidence interval	Range estimate around sample statistic	Wider with higher confidence or more volatility
Standard error	Standard deviation of sampling distribution	Falls as sample size rises
Normal distribution	Symmetric bell-shaped distribution	Real returns may have fat tails
Z-score	Number of standard deviations from mean	Requires comparable distribution assumptions

Correlation, Regression, and Risk

Term	Meaning	Exam trap
Correlation	Strength and direction of linear relationship	Does not prove causation
Correlation of +1	Perfect positive linear relationship	No diversification benefit
Correlation of 0	No linear relationship	Nonlinear relationship may still exist
Correlation of -1	Perfect negative linear relationship	Maximum diversification potential
Regression beta	Slope coefficient	Measures sensitivity to independent variable
Alpha	Intercept or excess return unexplained by beta	Must consider statistical significance
R-squared	Percent of variation explained by model	High R-squared does not prove correct model
P-value	Probability of observing result if null is true	Lower p-value indicates stronger evidence against null
Multicollinearity	Independent variables correlated with each other	Coefficients may be unstable
Heteroskedasticity	Nonconstant error variance	Standard errors may be unreliable

Research Modeling and Forecasting

Notes and examples

Scenario and Sensitivity Use

Tool	What it changes	Best use
Sensitivity table	One or two variables	Show valuation impact of key assumptions
Scenario analysis	Multiple linked assumptions	Bull/base/bear operating cases
Break-even analysis	Level needed for target outcome	Margin, volume, or price threshold
Stress test	Severe adverse assumptions	Downside risk and balance sheet resilience
Monte Carlo concept	Probability distributions across inputs	Range of outcomes when many variables interact

Revenue Forecasting

Driver	Best for	Watch for
Price × volume	Products, commodities, retailers	Mix shift and elasticity
Units × average selling price	Manufacturers, hardware, autos	Cyclicality and capacity
Customers × revenue per customer	Subscription and service models	Churn, upsell, retention
Same-store sales + new units	Retail, restaurants	Store maturity and cannibalization
Market size × market share	Emerging or competitive industries	Overoptimistic share gains

Cost and Margin Forecasting

Line item	Common approach	Trap
COGS	Percent of revenue or unit cost	Failing to reflect input inflation
SG&A	Fixed/variable mix or percent of revenue	Assuming unlimited operating leverage
R&D	Percent of revenue or strategic need	Cutting R&D may boost near-term margin but hurt growth
D&A	Linked to PP&E and capex	Do not simply grow it with revenue if asset base changes
Interest expense	Linked to debt schedule and rates	Circularity if debt depends on cash flow
Taxes	Effective tax rate or statutory-like normalized rate	Apply to pretax income, not revenue

Balance Sheet Forecasting

Item	Typical driver	Exam cue
A/R	Days sales outstanding	Higher DSO means slower collections
Inventory	Days inventory outstanding	Higher DIO means more cash tied up
A/P	Days payable outstanding	Higher DPO helps near-term cash flow
PP&E	Beginning PP&E + capex - depreciation	Capex assumptions affect both cash flow and depreciation
Debt	Financing needs, repayments, issuance	Debt changes interest expense and equity value
Cash	Revolver/debt plug or excess cash	Distinguish operating cash from excess cash

Common Series 86 Calculation Traps

Fast Review: If the Question Says…

Final Preparation Checklist

• Rework formula problems until you can identify the correct numerator, denominator, and valuation level without hesitation.
• Practice translating financial statement changes into ratio, cash flow, and valuation effects.
• Drill DCF, WACC, EPS, bond price/yield, duration, and regression interpretation questions.
• For every valuation question, ask: cash flow or earnings, enterprise or equity, normalized or reported, absolute or relative?
• For every accounting question, ask: cash or accrual, recurring or nonrecurring, operating or financing?

Next step: use this Cheat Sheet as a checklist while completing timed Series 86 practice sets, then review every missed question by formula, statement linkage, valuation method, and assumption error.

Cheat Sheet: How to Use This Page

This independent quick review is for candidates preparing for FINRA’s Series 86 — Research Analyst Qualification Examination (Part I), exam code Series 86. It is designed for fast review before you move into topic drills, mock exams, and detailed explanations.

Use it in three passes:

1. Concept pass: confirm you know what each valuation, accounting, and quantitative tool is used for.
2. Trap pass: focus on sign errors, numerator/denominator mismatches, timing errors, and accounting adjustments.
3. Practice pass: use independent companion practice with original practice questions, a question bank, topic drills, and detailed explanations to convert recognition into exam-speed application.

This page is independent review support. FINRA’s current materials and instructions control the actual exam experience.

High-Yield Series 86 Skill Map

Series 86 Part I rewards candidates who can connect company data, market data, accounting choices, valuation methods, and economic context.

Core Valuation Workflow

    flowchart TD
	    A[Understand business and industry] --> B[Normalize historical financials]
	    B --> C[Forecast operating drivers]
	    C --> D[Estimate free cash flow]
	    D --> E[Choose discount rate]
	    E --> F[Calculate explicit-period value]
	    F --> G[Estimate terminal value]
	    G --> H[Derive enterprise value]
	    H --> I[Adjust to equity value]
	    I --> J[Divide by diluted shares]
	    J --> K[Compare to market price and risks]

The highest-yield valuation mistake is not the math itself; it is mixing valuation frameworks. For example, using FCFF but discounting at the cost of equity, or using an equity multiple with an enterprise value numerator.

Financial Statement Analysis Essentials

Three-Statement Review

Notes and examples

Accrual vs. Cash Review

Event	Income statement effect	Cash flow effect	Interpretation
Sale on credit	Revenue and profit may rise	A/R increases; CFO may lag	Watch collection quality
Inventory build	No immediate expense until sold	Cash used in inventory	Can signal expected growth or demand weakness
Depreciation	Reduces operating income	Added back in CFO	Noncash expense but reflects capital intensity
Accounts payable increase	No direct revenue effect	Source of cash in CFO	May improve cash flow temporarily
Deferred revenue increase	Cash received before revenue	CFO improves before revenue recognition	Often important for subscription/prepaid models
Capitalized cost	Expense delayed	Cash outflow may be in investing	Can inflate current earnings

Working Capital Sign Rules

For cash flow from operations using the indirect method:

Change	CFO effect	Reason
Accounts receivable increases	Decrease CFO	Sales not yet collected
Inventory increases	Decrease CFO	Cash tied up in goods
Prepaid expenses increase	Decrease CFO	Cash paid before expense recognition
Accounts payable increases	Increase CFO	Expenses not yet paid
Accrued liabilities increase	Increase CFO	Costs recognized before payment
Deferred revenue increases	Increase CFO	Cash received before revenue recognition

Candidate trap: “current asset up” usually uses cash; “current liability up” usually provides cash.

Ratio Dashboard

Profitability Ratios

Notes and examples

Liquidity, Leverage, and Coverage

Ratio	Formula	What it tells you	Common trap
Current ratio	Current assets / Current liabilities	Short-term liquidity	High inventory may not be liquid
Quick ratio	Cash + marketable securities + A/R / Current liabilities	More conservative liquidity	Excludes inventory
Debt-to-equity	Total debt / Total equity	Financial leverage	Book equity may be very different from market equity
Debt-to-EBITDA	Debt / EBITDA	Leverage relative to earnings proxy	EBITDA is not cash available for debt service
Interest coverage	EBIT / Interest expense	Ability to pay interest from operating profit	Use EBIT, not EBITDA, if depreciation is economically significant
Fixed charge coverage	Earnings measure / fixed charges	Broader coverage	Definitions vary; read the stem

Efficiency Ratios

Ratio	Formula	Interpretation
Asset turnover	Revenue / Average assets	Revenue generated per asset dollar
Inventory turnover	COGS / Average inventory	Speed of inventory conversion
Days inventory outstanding	365 / Inventory turnover	Days inventory is held
Receivables turnover	Revenue / Average receivables	Collection efficiency
Days sales outstanding	365 / Receivables turnover	Days to collect sales
Payables turnover	COGS or purchases / Average payables	Supplier payment speed
Days payable outstanding	365 / Payables turnover	Days company takes to pay suppliers

DuPont Analysis

DuPont breaks ROE into operating performance, asset efficiency, and leverage.

\[ \text{ROE} = \frac{\text{Net Income}}{\text{Revenue}} \times \frac{\text{Revenue}}{\text{Average Assets}} \times \frac{\text{Average Assets}}{\text{Average Equity}} \]

Interpretation:

• ROE rises because margin improves: potentially higher pricing power or cost control.
• ROE rises because asset turnover improves: more efficient use of assets.
• ROE rises because leverage increases: higher risk; not necessarily better operating performance.
• ROE falls despite higher net income: equity base or asset base may have grown faster than earnings.

DCF Valuation: Exam-Speed Framework

DCF Steps

1. Normalize historical financials.
2. Forecast revenue, margins, taxes, working capital, and capex.
3. Calculate FCFF or FCFE consistently.
4. Select the correct discount rate.
5. Discount explicit forecast-period cash flows.
6. Estimate terminal value.
7. Convert enterprise value to equity value if using FCFF.
8. Divide by diluted shares.
9. Compare implied value to current market price.
10. Stress-test key assumptions.

Terminal Value

Gordon growth terminal value:

\[ \text{Terminal Value}_n = \frac{\text{FCF}_{n+1}}{r - g} \]

Key traps:

• \(g\) must be less than \(r\).
• Use next-period cash flow, not current-period cash flow.
• Terminal value is calculated at the end of the explicit forecast period, then discounted back.
• Terminal value often drives a large portion of DCF value; small changes in \(g\) or \(r\) can have large effects.

Enterprise Value to Equity Value

\[ \text{Equity Value} = \text{Enterprise Value} - \text{Debt} - \text{Preferred Stock} - \text{Minority Interest} + \text{Cash and Nonoperating Assets} \]

Then:

\[ \text{Equity Value per Share} = \frac{\text{Equity Value}}{\text{Diluted Shares Outstanding}} \]

Common candidate mistake: stopping at enterprise value when the question asks for equity value per share.

Discount Rates and Required Return

CAPM

\[ r_e = R_f + \beta(\text{Market Risk Premium}) \]

• Risk-free rate: should match currency and horizon of cash flows.
• Beta: measures sensitivity to market returns, not total business risk.
• Market risk premium: compensation for bearing equity market risk.
• Higher beta: higher required return and lower present value, all else equal.

Notes and examples

WACC

\[ \text{WACC} = \frac{E}{D+E}r_e + \frac{D}{D+E}r_d(1-T) \]

Decision rules:

Issue	Correct treatment
FCFF valuation	Discount at WACC
FCFE valuation	Discount at cost of equity
Debt cost	Use after-tax cost of debt in WACC
Equity cost	Do not tax-effect cost of equity
Capital weights	Prefer market-value or target weights when provided
Preferred stock	Include separately if material and information is provided
Country/currency risk	Match discount rate assumptions to cash flow assumptions

Beta Adjustments

When comparing firms with different leverage, analysts may unlever and relever beta.

Beta type	Meaning
Levered beta	Equity beta reflecting business risk plus financial leverage
Unlevered beta	Asset beta reflecting business risk without capital structure effect
Relevered beta	Beta adjusted to target capital structure

Trap: higher debt generally increases equity risk, which can increase levered beta and cost of equity.

Dividend Discount Models

The Gordon growth model:

\[ P_0 = \frac{D_1}{r-g} \]

Use it when dividends are stable, meaningful, and tied to long-term earnings capacity.

Sustainable growth concept:

Sum-of-the-Parts and Asset-Based Valuation

Trap: do not apply one peer multiple to a conglomerate if segments have very different growth, margins, and risk.

EPS, Dilution, and Capital Structure

Basic EPS:

\[ \text{Basic EPS} = \frac{\text{Net Income} - \text{Preferred Dividends}}{\text{Weighted Average Common Shares}} \]

Diluted EPS includes potentially dilutive securities when they reduce EPS.

Notes and examples

Capital structure effects:

Action	EPS effect	Value interpretation
Debt-financed buyback	Share count falls, interest rises	EPS may rise even if risk rises
Equity issuance	Share count rises	Dilution may be offset if capital earns high returns
Dividend increase	Cash returned to shareholders	May signal confidence or limited reinvestment opportunities
Stock split	Shares rise, price per share adjusts	No direct change in company value
Preferred issuance	Adds fixed claim ahead of common	Preferred dividends reduce common EPS numerator

Sector-Specific Valuation Cues

Do not memorize sector metrics mechanically. Ask: What economic driver creates value in this business?

Quantitative and Statistical Review

Time Value and Capital Budgeting

NPV:

\[ \text{NPV} = \sum_{t=1}^{n}\frac{CF_t}{(1+r)^t} - C_0 \]

IRR is the discount rate that makes NPV equal zero.

Notes and examples

Risk and Return

Concept	Meaning	Trap
Expected return	Probability-weighted average return	Expected does not mean guaranteed
Variance	Average squared deviation from mean	In squared units
Standard deviation	Volatility around mean	Measures total risk
Covariance	Directional co-movement	Scale can be hard to interpret
Correlation	Standardized co-movement from -1 to +1	Correlation is not causation
Beta	Sensitivity to market return	Measures systematic risk, not total risk
Alpha	Return unexplained by benchmark exposure	Depends on model and benchmark

Regression Interpretation

Output	Meaning	Common mistake
Intercept	Expected dependent variable when independent variable is zero	May have limited economic meaning
Slope coefficient	Change in dependent variable per unit change in independent variable	Confusing sign and magnitude
R-squared	Percent of variation explained by the model	High R-squared does not prove causation
Standard error	Estimate uncertainty	Smaller generally means more precise
t-statistic	Coefficient relative to its standard error	Statistical significance is not economic importance
p-value	Probability of observing result if null is true	Low p-value does not guarantee practical relevance

Arithmetic vs. Geometric Return

Return type	Use
Arithmetic average	Single-period expected return estimate
Geometric average	Multi-period compounded historical return
Money-weighted return	Investor-specific cash flow timing
Time-weighted return	Manager performance excluding external cash flow timing

Trap: if the question asks for compounded performance, geometric return is usually more relevant than arithmetic average.

Accounting and Valuation Traps Candidates Miss

Inventory

Notes and examples

Trap: inventory method affects margins, taxes, working capital, and comparability.

Depreciation

Method	Early-period expense	Later-period expense
Straight-line	Lower than accelerated	Higher than accelerated
Accelerated	Higher	Lower

Trap: accelerated depreciation lowers early accounting income but may not change total cash economics except through taxes.

Leases and Debt-Like Obligations

For analysis, long-term contractual obligations can behave like debt. Watch for:

• Leverage that is not obvious from simple debt balances
• Fixed payments that affect coverage
• Comparability issues between companies with different lease intensity

Goodwill and Impairment

Item	Key point
Goodwill	Arises in acquisitions when purchase price exceeds identifiable net assets
Impairment	Noncash charge but may indicate overpayment or weaker future economics
Tangible book value	Excludes intangible assets and goodwill

Trap: a noncash impairment does not directly reduce current cash flow, but it may reveal that prior investment assumptions were too optimistic.

Analyst Judgment: What the Question Is Really Testing

Fast Decision Tables

Which Valuation Method?

Notes and examples

Which Discount Rate?

Cash flow	Discount rate
FCFF	WACC
FCFE	Cost of equity
Dividends	Cost of equity
Nominal cash flows	Nominal discount rate
Real cash flows	Real discount rate
Domestic currency cash flows	Domestic currency discount rate
Foreign currency cash flows	Matching foreign currency discount rate

What Raises Valuation?

Change	Direct effect
Higher expected FCF	Raises value
Higher long-term growth, if sustainable	Raises value
Lower discount rate	Raises value
Lower working capital needs	Raises value
Lower capex intensity	Raises value
Higher debt	May increase equity risk; affects equity value after EV
Higher share count	Lowers per-share value

Common Wrong-Answer Patterns

Mini Review: Reading a Research Problem Stem

When a Series 86 question gives a company scenario, read in this order:

1. Company type: bank, industrial, technology, retailer, commodity producer, REIT, utility, etc.
2. Metric requested: EPS, FCFF, enterprise value, equity value, ROE, WACC, multiple, NPV.
3. Time period: trailing, current, forward, terminal, annualized, quarterly.
4. Basis: pre-tax vs. after-tax, nominal vs. real, book vs. market, basic vs. diluted.
5. Capital claim: enterprise-wide or common equity only.
6. Adjustment clues: excess cash, debt, preferred, minority interest, one-time charges, working capital.
7. Question wording: “increase,” “decrease,” “most likely,” “least likely,” or “all else equal.”

Practice Plan for Final Review

Use this Cheat Sheet as a checklist, then move into independent companion practice.

A strong final review sequence:

1. Rework missed questions without looking at explanations.
2. Write the rule that would have prevented each error.
3. Redo the same topic drill after a short delay.
4. Mix topics so you must choose the method, not just apply a known formula.
5. Use mock exams to test pacing and endurance.
6. Review detailed explanations for both correct and incorrect choices.

Final Readiness Checklist

Before sitting for the real FINRA Series 86 — Research Analyst Qualification Examination (Part I), confirm you can:

• Calculate and interpret major profitability, liquidity, leverage, efficiency, and valuation ratios.
• Move confidently between income statement, balance sheet, and cash flow effects.
• Compute FCFF and FCFE and select the correct discount rate.
• Build the bridge from enterprise value to equity value per share.
• Identify when to use P/E, EV/EBITDA, EV/Sales, P/B, DCF, DDM, or sum-of-the-parts.
• Explain why a multiple is higher or lower than peers.
• Interpret business cycle, interest rate, inflation, currency, and industry effects.
• Understand beta, correlation, regression output, NPV, and IRR at exam speed.
• Spot common traps in timing, tax treatment, dilution, cash flow classification, and numerator/denominator matching.

Next step: use original practice questions in a Series 86 question bank, work targeted topic drills, and study the detailed explanations until you can explain both the right answer and the most tempting wrong answer.

Put the review into practice