Mergers and Acquisitions – A beginner’s guide
M&A involves using more than one valuation technique to arrive at a valuation that we think is fair. The most common techniques used are:
Comparable Publicly traded companies (“Public Comps”) – this analysis indicates how the stock markets are valuing companies that are similar to the target
Precedent Comparable Transaction analysis (“Transaction Comps”) – this analysis indicates the valuations at which prior M&A transactions have been done in the same industry as that of the target.
DCF analysis – is one of the most important valuation techniques
Sum-of-the-parts analysis – If a target has more than one lines of ...view middle of the document...
Also understand if merger premium is already built into price – industry group should know this.
There are always some industry specific comps (Telecom – Enterprise Value to POPs and SUBs, Electric Utilities - $/Mw etc.). Make sure you capture these in your analysis.
Using these, we will try to value the target bearing in mind that public comps don’t reflect the “control premium” that an acquirer will pay for buying control of the target. The control premium is generally around 30% for U.S. transactions. Also, some companies that are widely perceived to be acquisition targets may have some premium built into their stock price.
Most common multiples are:
Equity Multiples: P/E (Price / LTM EPS, Price / 1-Year forward EPS, Note that the Earnings need to be after Preferred Dividends so that they are earnings that are available to Common shareholders), Price to Book (Price / Book value of equity per share).
Enterprise Value Multiples: EV/Revenues, EV/ EBITDA, EV/EBIT (Note that the Revenues, EBITDA and EBIT multiples could be computed for LTM and 1-Year forward projected numbers)
The goal here is to understand the multiples at which transactions in the target’s industry sector have been announced or completed. The importance difference with public comps is that in this case, a control premium is built into the offer price and therefore the multiples.
Specifically, determine the pricing of past deals as compared to the target’s financial performance and unaffected (pre-announcement) market value
Transactions selected should be as comparable to our proposed transaction as possible, so one should look for recent deals, where a company with highly similar business was acquired, in the same country as the target etc.
The most common ones are same as in the case of public comps but, additionally, transaction comps also cover Premium paid (Offer price premium as % of 1-day, 1-week and 4-week trading prices).
DCF (Merger model has this already built into it)
Discount unleveraged projected free cash flows (or in some cases dividendable income) at Company’s cost of capital to obtain an economic present value of assets. Subtract market value of outstanding net debt and preferred capital from the present value of assets to get present value of equity. Free cash flow is after-tax operating earnings plus non-cash charges less increases in working capital less capital expenditures. (On leveraged DCF analysis, free cash flow is reduced by after-tax interest expense)
Sensitivities on discount rates, terminal value assumptions and operating scenarios are frequently used to estimate the uncertainty in the values obtained
Goal is to understand how much value a financial buyer (with no operating synergies) could buy the target for
To understand the economics of an LBO lets do an example: Company A’s equity market capitalization is $100MM and it has Debt of $75MM. This year it reported EBITDA of $50MM. A...