Merger and Acquistions Theory

Advanced Financial Modeling
Session - 5
Mergers and Acquisition Valuation
Theory
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Business Combinations
• Acquiring firm absorbs all the assets and liabilities of the absorbed firm
Merger • Company A + Company B = Company A
• Both entities continue to exist in a parent subsidiary relationship. Accounts are

Acquisition prepared at a consolidated level. Minority interest needs to be accounted for.
• Company A + Company B = Consolidate Company (A + B)
• Initiator of the transaction

Acquirer • Also called as bidder
• Company being acquired

Target • Also known as acquiree
2 Copyright© - IMS Proschool Pvt. Ltd.
Forms of Integration
Statutory • Target is smaller than the acquirer

Merger • Target ceases to exist
• Target becomes a subsidiary

Subsidiary • Brand retention is the intention
Merger • e.g. P&G buying Gillette
• A+B=C
Consolidation • New company is formed post the merger

Types of Mergers
Horizontal • Two businesses operate in the same industries
Merger • e.g. Tata Motors acquiring Maruti
• Acquiring company seeks to move up or down the value

Vertical chain
• e.g. Forward Integration – ONGC acquiring BPCL
Merger • e.g. Backward Integration - Tata Motors acquiring Tata Steel
• Two companies working in different industries merge

Conglomerate together
Merger • e.g. RJR – Cigarette company merged with NABISCO

National Biscuit company to make RJR Nabisco

Motivations Behind Mergers
• Synergies –
1 2 3.5
– Combined entity is larger than the parts
– Cost or revenue synergies
– Horizontal Merger – Cost synergy, economies of scale
– E.g HP acquiring Compaq
• Achieving more rapid growth
– Inorganic route for growth of companies
– M&A related growth is common in mature industries
– E.g. Cisco
• Increased Market power
– Increased market share gives the company a power to influence market
prices
– Vertical mergers reduce dependence on suppliers
– E.g. Arcellor Mittal merger

• Gaining access to unique capabilities
– Special capabilities can be researched internally or acquired from outside
– E.g. Tata Telecom acquiring TYCO undersea cable network
• Diversification
– Diversifying the product and service offering of companies by acquisition can
help reduce the reliance of companies on particular products or market
segments.
– E.g. Mahindra Satyam acquiring V Customer (BPO company)
– Data shows conglomerates trading at lower multiples than sum of their parts.
Also investors can easily create diversification in their portfolios. Thus
diversification as a motive for merger is questionable.
• Bootstrapping EPS
– A merger generates an increase in earnings per share due to bootstrapping,
even without an economic gain

• Bootstrapping combines the EPS of a high P/E company with that of
a low P/E company to create a company with higher P/E.
• This will result in an increase in the valuation of the combined
entity
• EPS of combined entity = addition of profit of 2 companies /
(Number of share of acquirer + number of share issued to the target
during acquisition)
– Here the P/E of the target being lesser, will result in lower
proportion of acquirer shares being swapped and hence
denominator will be lower
– This will result in higher EPS value of the combined entity

Example : 1 - Bootstrapping
• ABC company is planning to acquire PQR company.
Financial information is provided below.
• Calculate the post merger EPS and determine whether
the merger created economic gains

Solution:
• 12,500 new shares issued by ABC company to acquire
shares of PQR company.
• EPS growth is only due to change in number of shares

and it does not reflect tan increase in economic value
• In practice market tends to recognize the
bootstrapping effect and post merger P/E adjusts
accordingly.

Merger Transaction Characteristics - Form of Acquisition

Merger Transaction Characteristics –
Method of Payment
Securities Offering Cash Offerings

• Shareholders of the target • Payment of cash to the target
company are given stocks of the company’s shareholders
acquirer based on a pre-decided
Exchange Ratio (due to daily • Three factors to be
movements in share price) considered while deciding
The exchange ratio is decided
based on negotiations in over method of payment
advance. – Distribution of risk and
• Factors influencing valuation are: reward between
– Exchange Ratio shareholders of Acquirer and
– Number of shares outstanding Target
of target company – Relative valuations of
– Value of acquirer’s stock on the companies involved
day of deal completion
– Changes in capital structure

Merger Transaction Characteristics –
Target Management Attitude
Friendly Merger Offer Hostile Merger Offer

• Acquirer approaches target • If target management does not
management support the deal, then the
• If both parties agree, then terms of acquirer submits a merger
transaction and method of payment proposal to the target board of
are worked out directors
• Both parties get a due diligence of • This is called as bear hug
each other done
– Target Due Diligence of Acquirer –
• If bear hug is unsuccessful then
To check the financial capability acquirer approaches
– Acquirer due diligence of target – shareholders of target
To check if all the assets the – Tender offer – purchase shares
acquirer shareholders pay for are from shareholders
for real – Proxy battle – acquirer seeks to
• The information is made public control target by having
when a definitive agreement is shareholders approve a new
signed “acquirer approved” board of
directors.
Pre-offer Takeover Defenses
• Provides the current shareholders the right to purchase additional shares of
the company at extremely attractive prices (discount to current price)
Poison • This results in dilution and effective increase in the cost to potential acquirer
Pill
• Provides a provision to bondholders to ask for an immediate repayment of their bonds if

Poison there is a hostile takeover.
Put
States with
• Some state laws in US are more target friendly
restrictive • Companies wanting to avoid hostile takeovers register themselves in these states
takeover
policies
• BOD is made into 3 groups and each group is elected in a staggered manner over 3 years
Staggered
board

Post-offer Takeover Defenses
Leveraged • Large debt used to refinance share repurchase by the target

Recapitalizati
on
• After a hostile offer a target may decide to sell a subsidiary or major asset to a neutral third
Crown jewel party
defense
• The target puts a counter offer to acquire the acquirer

Pac-Man
Defense
• A friendly third party comes to the rescue of the target by offering a price higher than the
hostile bid
White Knight • Many a times this results in a price war and provides a better price to the target
• A friendly third party buys a minority share of the target

• Minority stake is big enough to block the hostile acquirer from gaining enough shares to
White Squire complete the merger

Valuing a Target Company
• Three Basic methods to Value a company in M&A transactions are:
– Discounted Cash Flow Analysis
– Comparable Company Analysis
– Comparable Transaction Analysis

Discounted Cash Analysis
• To calculate free cash flow (FCF) for a target company
and estimate its value using DCF analysis, we can use
following steps:
• Determine which FCF model to used for analysis.

• We will use two stage cash flow model during high growth phase and stable
Step 1: growth phase.
• Develop pro forma financial estimates.

Step 2:
• Calculate free cash flows using pro forma data.

• Calculation shown in next slide.
Step 3:

Discounted Cash Analysis
• Discount Free Cash flows back to the present at appropriate discount rate.
• For calculating a potential merger target, we adjust the target’s WACC to reflect any
changes in the target’s risk or capital structure that may result from the merger
Step 4: (WACC adjusted).
• Determine the terminal value and discount it back to the present.

• It can be done in two ways. The 1st way is to use constant growth model & 2nd way is
Step 5: to use market multiple as shown ahead.
• Add the discounted FCF values for the first stage and the terminal value to determine
the value of the target firm.
Step 6:

Formula used for Step 3:
• Calculate free Cash flow using pro forma data:

Formula used in step 5:
• Calculating Terminal Value using,
▪ Market multiple method :
• Terminal ValueT = FCFT * (P/FCF)
▪ Constant growth model :

Example : 2
• ABC company wants to acquire PQR.
• ABC’s analysts have developed the pro forma income
statement and other financial data shown in the
below table.
• Estimate the value of PQR
using DCF Analysis

Solution:

Estimate Intrinsic value of company using comparable
company analysis
• Identify the set of Comparable Companies.

• Ideally, the sample of other companies will come from the same industry as the target
Step 1: and have a similar size and capital structure.
• Calculate various relative value measures based on the current market prices of
companies in the sample.
Step 2: • Relative value measure such as P/E, P/B and P/S etc.
• Calculate the Statistics(mean, median, and range) for the chosen relative value
measures and apply those to the estimates for the target to determine the target’s
value.
Step 3: • Using P/E ratio, Value = EPS x (P/E)

Estimate Intrinsic value of company using comparable
company analysis
• Estimate a takeover premium(TP) . A takeover premium is the amount that the

takeover price of each of the target’s shares must exceed the market price in
order to persuade the target shareholders to approve the merger deal.
• TP = (DP-SP) / SP where , DP=Deal Price, SP= Share Price.
Step 4: • Analysts usually look at premiums paid in recent takeovers of companies most
similar to the target firm.
• Calculate the estimated takeover price for the target as the sum of
estimated stock value based on comparables and the takeover premium.
• Once the takeover price is computed, the acquirer should compare it to
Step 5: the estimated synergies from the merger to make sure the price makes
economic sense.

Example : 3
• ABC company wants to acquire PQR company.
• ABC decides to use comparable company analysis to
find the value of PQR
• Based on the following data estimate the value of PQR

Solution :

Comparable transaction analysis involves the following steps:
• Identify a set of recent takeover transactions. Ideally, the sample of other companies
will come from the same industry as the target and have a similar size and capital
Step 1: structure.
• Calculate various relative value measures based completed deal prices for the
companies in the sample.
• Calculate measures such as P/E, P/B and P/S but they are based on prices for
Step 2: completed M&A deals rather than current market prices.
• Calculate the Statistics(mean, median, and range) for the chosen relative value
measures and apply those to the estimates for the target to determine the target’s
value.
Step 3: • Using P/E ratio, Value = EPS x (P/E)

Example : 4
• ABC company wants to acquire PQR company.
• ABC decides to use comparable transactions analysis
to value PQR company
• Calculate the appropriate valuation metrics and use
the mean estimate to value PQR

Solution :

Discounted Cash Flow Analysis
Advantages Disadvantages
• It is relatively easy to model any • The model is difficult to apply when free
changes in the target company’s cash flows are negative. For example, a
cash flow resulting from operating target company experiencing rapid
synergies or changes in cost growth may have negative free cash
flows due to large capital expenditures.
structure that may occur after the
Merger. • Estimation error is a major concern
since the majority of the estimated
• The DCF analysis is focused on cash value for the target is based on the
flow generation and is less affected terminal value, which is highly sensitive
by accounting practices and to estimates used for the constant
assumptions. growth rate and discount rate.
• The DCF method is forward-looking • They might run into trouble while
and depends more on future valuing Distressed firms, Cyclical firms,
expectations rather than historical firms with patents or product options &
firms in process of restructuring etc.
results.

Comparable Company Analysis
• Data for comparable • The approach implicitly assumes that
the market’s valuation of the
companies is easy to comparable companies is accurate.
access. • Using comparable companies provides
• Assumption that similar an estimate of a fair stock price, but not
a fair takeover price. An appropriate
assets should have similar takeover premium must be determined
values is fundamentally separately.
sound. • It is difficult to incorporate merger
synergies or changing capital structures
• Estimates of value are into the analysis.
derived directly from the • Historical data used to estimate a
market rather than takeover premium may not be timely,
and therefore may not reflect current
assumptions and estimates conditions in the M&A market.
about the future.
Comparable Transaction Analysis
• Approach uses data for • The approach implicitly assumes
that the M&A market’s valuation
actual transactions, there past transactions is accurate.
is no need to estimate • Not enough comparable
separate takeover transactions to develop reliable
premium data set for use in calculating the
estimated value
• Estimates of value are • It is difficult to incorporate
derived directly from merger synergies or changing
recent prices of actual capital structures into the
analysis.
deals rather than
estimates of future
Post Merger Value of an acquirer
• In a merger combined firm will be worth more than
the sum of the two separate firms
• Vat = Va + Vt + S – C
– Where,
• Vat = post merger value of combined entity
• Va = pre merger value of acquirer
• Vt = pre merger value of target
• S = Synergies created by merger
• C = Cash paid to target shareholders

Post Merger Gains
Gains accrued to Target Gains accrued to Acquirer

• A merger will always happen at a • Acquirer pays a premium
premium to market value
• Gaint = TP = Pt –Vt
because he expects to
• Where, generate gains from
– Gaint = gains accrued to target synergies
shareholders • Gaina = S – TP = S – (Pt –
– TP = takeover premium
Vt)
– Pt = price paid for target
– Vt = pre merge value of target • Where,
– Gaina = Gains to acquirer
– S = Synergy gains

Cash payment versus stock payment
• Method of payment for merger defines the final gains for

the target or the acquirer
• With a cash offer the target's shareholders will profit to
the extent of premium over the current market price
• With the stock offer the gains will be determined in part
by the value of the combined firm, as the target firm’s
shareholders do not receive cash and just walk away, but
retain an ownership interest in the new firm
– Pt = N * Pat

Example : 5
• ABC plans to acquire PQR in a friendly acquisition.
• The acquisition price is agreed upon $ 30 per share of PQR
• The management teams are negotiating on the methods of payment.
• Following are the details:
• Calculate post merger value of the combined firm, gains accrued to the target, and gains
accrued to the acquirer under the following scenarios:
– Case I – Cash offer of $30 per share for PQR
– Case II – Stock offer of 0.75 shares of ABC for every share of PQR

Solution : Case I – Cash Offer
• Vat = Va + Vt + S – C
– = 2400 + 1000 + 300 – 30 * 40
– = 2500
• Gain to Target
– Gaint = TP = Pt –Vt
– Gaint = 1200 – 1000 = 200
• Gain to acquirer
– Gaina = S – TP = S – (Pt –Vt)
– Gaina = 300 – (1200 – 1000) = 100

Solution : Case II – Stock Offer
• Vat = Va + Vt + S – C
– = 2400 + 1000 + 300 – 0
– = 3700
• Post merger value of the combined shares
– PAT = 3700 / ( 60 + 40 * 75%)
– PAT = 3700 / 90 = 41.11
• Gain to Target
– Gaint = TP = Pt –Vt
– Gaint = 30 * 41.11 – 1000 = 233.33
• Gain to acquirer
– Gaina = S – TP = S – (Pt –Vt)
– Gaina = 300 – (30 * 41.11 – 1000) = 66.67
Conclusion of Section-2
• This concludes Section-2 i.e. Theory of Mergers and
Acquisitions
• Next section of the book deals with Modeling of
Merger and Acquisitions.

Session - 6
Financial Modeling
Developing M&A Model of

KPIT Cummins & Persistent Systems

Case Definition
• This is a dummy case just to get acquainted with M&A
modeling.
• We have chosen KPIT Cummins and Persistent
Systems as Acquirer and Acquiree respectively.
• KPIT Cummins is looking for inorganic growth by
acquiring an IT company.
• We see Persistent Systems as potential company that
can be acquired.
• In this model we would try to find that Persistent
Systems if acquired by KPIT Cummins, would add to
the bottom line of the acquirer.
Approach for Developing the Merger Model
• Step 1: Building Model Template

• Step 2: Sourcing Historical Data
• Step 3: Analyzing and Projecting Revenue Drivers
• Step 4: Forecasting Schedules
• Step 5: Forecasting Income Statement
• Step 6: Forecasting Balance Sheet
• Step 7: Forecasting Cash Flow Statement
• Step 8: Completing Forecast IS/BS/CFS
• Step 9: DCF Valuation
• Step 10: Relative Valuation
Approach for Developing the Merger Model
• Step 11: Transaction Comps
• Step 12: Valuation Summary
• Step 13: Synergies
• Step 14: Merger Model

Financial Modeling
Step – 1: Building Model Template

Model Template Design
• Basic Tips
– Every worksheet should contain information about the units in which
numbers are shown
• E.g. Thousands, Millions
– It should also contain the currency in which the numbers are displayed
– Color coding should be used to make the data easily identifiable from
assumptions and calculations

Model Template Design - KPIT
• Data to be displayed in Million Indian Rupees
• Actual numbers to be shown in BLUE
• Assumptions to be shown in RED
• Calculations to be shown in BLACK
• Column A to be used for Labels
• Columns B and C to be left blank
• Rows 5 – Date
• Row 6 – Year

Financial Modeling
Step – 2: Sourcing historical data

Get The labels of the Income Statement from Annual Report
Insert major line items of Income

Statement. Start from cell A8.
Formatting:
•A line separating particulars and
sub totals should be drawn.

Enter Data For Income Statement
Data is added from the

latest annual report
Observe the color coding

convention is followed.
Blue for actual and Black
for calculation
While collecting data ,

remember Collect the
information from
earliest to latest periods
All data in millions is

shown without decimals.
Per share data like EPS is
shown with 2 decimals

Total Revenue = Revenue

+ Other Revenue
Gross Profit = Total

Revenue – (Employee
benefit expenses + Cost
of technical
professionals)
EBITDA = Gross Profit –

Other Expenses
EBIT = EBITDA -
Depreciation
EBT = EBIT – Interest

Expenses

PAT = EBT – Total

Provisions for Tax
No: of Shares
Basic = PAT/Basic EPS
No: of Shares
Diluted = PAT/ Diluted
EPS

Add data for the

historical periods
Remember data should

be added from Latest to
Earliest
This ensures that as
analysts we are aware of
the latest happenings in
the company
The old data can be taken

from latest filings
Eg. Get 2013 data from

2014 Annual report, 2012
data from 2013 AR , and
so on

Enter Data For Balance Sheet
Search for the consolidated

Balance Sheet in the
Annual report of Persistent
Systems
The balance sheet numbers

are given in actual. While
punching the numbers in
the model, take care to add
the numbers in actual and
then convert in millions
Data added till last decimal

point will ensure that the
Asset = Liabilities + Equity
matches

Shareholders’ Equity =
Share Capital + Reserves
and Surplus
Total Long Term Liabilities
= L T Borrowings + Oth L
T Borrowings + L T
Provisions
Total Current Liab = Trade
Payables + Oth Cur Liab +
Short Term Provisions
Total Liab & Shareholders

Equity = Tot Shareholders
Eq + Tot Long Term Liab +
Tot Cur Liab

Tot Long term Assets =

SUM(F24:F32)
Total Current Assets =

SUM(F35:F39)
Total Assets = Tot Long

Term Assets + Tot Cur
Assets
Checksum = Tot Liab &

SH Eq – Total Asset

Add data for the

historical periods
Remember data should

be added from Latest to
Earliest
Keep all the numbers in

millions
When we build models

on several companies,
data in same units makes
it easy to comprehend
and compare numbers.
Hence only a single
number convention
should be used.
Enter Data For Cash Flow Statement
Working capital change is
a critical line item to
watch out for. An
increase in working
capital implies a decrease
in cash. Companies use
working capital for
accelerating revenues or
deferring expenses. Also
change in working capital
will be used later for
valuation while
computing FCFF
Net Cash Generated from

operations = Op. Profit
After Working Capital –
Direct Taxes Paid

Enter Data For Cash Flow Statement
Add data for the

historical periods. Add
Investing and Financing
Data
Add data of cash.

Importing Data to the Template – Sum up
• Historical Data of the financial statements is imported
from the Annual Report
• When you are analyzing any other company, this will
remain the common starting step.
• Now we need to start with projections as valuations
depend on future income of the company
• Past data is useful for developing forecasts
• We start with projection of Income Statement
– The first item in the income statement is Revenues
– Lets develop revenue forecast as a next step
– Forecasts for revenues are critical for the modeling process
as
1. It helps us develop the business understanding
2. Rest of the forecasts are dependent on the revenue projections

Financial Modeling
Step – 3: Analyzing and Projecting

Revenue Drivers
Analyzing Revenue Drivers for Persistent
• Company provides services business onsite and offshore.
• Revenue break-up can be further understood as below:
Total Revenues
Onsite Offshore IP
Exchange Rates Exchange Rates Exchange Rates
Billing Rate Billing Rate Billing Rate
Billed Person Billed Person IP led Person

Month Month Month

Understanding Revenue Drivers Calculation
• Exchange Rate = Previous year Exchange Rate x
Growth rate
• Billing Rates = Previous year billing rate x Billing
Growth rate
• Billed Persons Month = Billable Person Month x
Utilization
• Total Billable person month = Billable avg. x 12
• Billable person month = Total Billable person month x
Onsite(%) of Total Billable person month.
• Utilization = Previous year Utilization
• Billable avg = Total Avg x Billable as % of Total Avg

Understanding Revenue Drivers Calculation
• Total avg = Total Dev Emp% x Technical Employee
• Total Development Emp% = Previous year Total
Development Emp
• Technical Employee = Previous year count + Addition
• Technical Emp Addition = Total Emp x Technical
addition as % of Total employee
• Total Employee = Previous year count x growth rate
• Technical addition as % of Total employee = Previous
year rate

Analyzing Pricing for Persistent
• IT Services industry works on outsourcing.
• The per hour billing varies for onsite and offshore
delivered work
• Generally the onsite working rate varies between 60-
90 $/Hr
• The offshore working rate varies between 15-25 $/Hr
Onsite
Billing Rate
Offshore

Points to remember while forecasting revenue
• Taking suitable assumption for the growth rate in the
onsite, offshore and IP revenues we obtain forecasts for
the billing rates.
– To get the billing person month in the next period; we have
to go per the guidance given by the company on employee
addition.
– From amongst the employees who would be added in the
period, we estimate how many of them would be billable
employees. Billable employees would be the software
professionals or the development employees.
• When these new employees start delivering, the company
should also have additional work. This gets factored in the
utilization %. So by taking suitable assumption for the
utilization % and the number of employees added we get
an estimate for the future revenues.

Revenue Forecast - Persistent
Data required for revenue forecast are as follows:
• Onsite/Offsite/IP - Split (Revenues in %)
• Billing Rates
• Employee Strength - year End
• Onsite/Offsite/IP Split (Utilisation)

Insert the line items as

follows

Import data here

Import data here

Onsite Revenue = Total Revenue x Onsite
Revenue Mix.
Similar formula for Offshore and IP Revenue
Total Revenue = Link

from Income
statement
Exchange Rate = (sum of

onsite and offsite rev in
millions)/ sumproduct of
Billing rate and Billed
person month
Billing rate (IP) = IP rev in

million/ exchange rate/IP
Similarly repeat for all the led person months
other years till 2014-A
Technical Employees Addition =

Current year employee –
Previous year count
Total Employee addition =

Current year employee –
Previous year count
Technical addition as % of Total

Addition = Technical emp/total
emp
Similarly repeat for all the

other years till 2014-A
Billable Avg = Billable
person month (Effort)
/12
Billed avg = Billed person

months/12
IP avg = IP led person

months/12
Total Avg = Billable avd +

IP avg

Total Devlopment Emp =

Total Avg/ Technical emp
Billable as % of Total Avg

= Billable avg/Total Avg
IP as % of Total Avg = IP
avg/Total Avg

Assumptions for Revenue Forecast
• Exchange rate growth = 5%
• Onsite billing rate growth = 3%
• Offshore billing rate growth = 6%
• IP billing rate growth = 6%
• Total Employee yearly addition = 10%
• Technical addition as % of total addition = same as

previous year
Assumptions for Revenue Forecast….contd
• Onsite effort% = Same as previous year
• Offshore effort% = Same as previous year
• Onsite utilization % = Same as previous year
• Offshore utilization % = Same as previous year
• Total Development Employees = Same as previous

year
• Billable as % of Total Avg = Same as previous year

Assumptions for Revenue Forecast….contd
• Billable as % of Total Avg = Same as previous year
• IP as % of Total Avg = Same as previous year

Technical Employee =
Previous year count +
Technical employee
Total Employees addition addition
= Previous year count x
(1+ Growth rate)
Technical Employee
addition = Total
Employees x Technical
addition as % of Total
Addition

No: of Billable Emp (avg)

= Total(avg) x Billable as
Total Number of % of Total (avg)
Employee(avg) = Total
Technical Emp as % of
Total Employee(avg) x
Total Technical Emp No: of IP (avg) =
Total(avg) x IP as % of
Total (avg)

Total Billable person
months = Number of
billable emp (avg) x 12
Onsite Billable person

months = Total Billable
person months x Onsite
Effort %
Offshore Billable person

months = Total Billable
person months x
Offshore Effort %
Onsite Billed Person

Months = Onsite Billable
person months x Onsite
utilization

Offshore Billed Person Total Billed Person

Months = Offshore Months = Offshore
Billable person months x Billable person months +
Offshore utilization Onsite Billable person
months
IP Led person months =

Number of IP employees
(avg) x 12
Avg Billed employees =

Total Billed Person
Months / 12

Onsite Revenue = Exchange rate x

Onsite Billing Rate x Onsite Billed
Person Months/10^6
Exchange Rate = Previous

year rate x Growth rate
Onsite Billing Rate =

Previous year rate x
growth rate
Offshore Billing Rate =

Previous year rate x
growth rate
IP Billing Rate = Previous

year rate x growth rate

Offshore Revenue =
Exchange rate x Offshore
Billing Rate x Offshore
Billed Person
Months/10^6
IP Revenue = Exchange
rate x IP Billing Rate x IP
led Person Months/10^6
Total Revenue = Onsite

Revenue + Offshore
Revenue + IP Revenue

Onsite as % of Total
Revenue = Onsite
Revenue / Total Revenue
Offshore as % of Total
Revenue = Offshore
Revenue / Total Revenue
IP as % of Total Revenue
= IP Revenue / Total
Revenue

Select cell G9 to G62 and

drag it till column K

Revenue Metric is
complete

Link the cell to the Total

Revenue cell of Revenue
Metric worksheet. Drag
the cell for all the
projected years

Financial Modeling
Step – 4: Forecasting Schedules

Analyzing Costs
• Costs are generally variable in nature.
• The fixed costs by the company include depreciation and
interest expense.
• Other costs are largely dependent on the revenues by the
company. Thus majority of the costs are mapped against
the revenues. This is known as common-sizing.
• Considering the revenues to be 100% we find the costs as
a % of revenues.
• We will follow the common sizing method to project the
following costs:
– Employee Benefit Expenses
– Cost of Technical Professionals
– Other Expenses
Forecasting costs in Model
• Whatever forecasts we create in this worksheet, will
be flown back into the income Statement, to complete
the Income Statement forecast
• Don’t forget the main objective of the model which is
to forecast the financial statements so that we get the
cash flow estimates, which will help us value the
company

Forecasting Schedule - Persistent
Link the following cells to

the Income Statement

Employee Benefit
Expenses as % of
Revenue = Employee
Benefit Expense /
Revenue
Cost of Technical
Professional as % of
Revenue = Cost of
Technical Professional /
Revenue
Other Expenses as % of
Revenue = Other
Expenses / Revenue
Similar exercise for Depreciation,

Interest Income and Total
Provision for Tax

Effective Tax Rate = Total

Provision for Tax / EBT
Note: Linked from

Income Statement

Link the cells from the

Balance Sheet

Income Statement

Cash Flow statement.
Note: Minus sign is used
to get the absolute value

Cash Flow statement.
Note: Minus sign is used
to get the absolute value

Depreciation Rate =
Depreciation/(Previous
year Fixed Asset +
Purchase of fixed
asset/2).
Similarly do for year 2014
Purchase of fixed asset as

% of Revenue = Purchase
of fixed asset/Revenue.
and 2014
Payout Ratio % =
Dividends paid / PAT.
and 2014

DPS = Dividends Paid/No:
of Basic Shares.
and 2014
Dividend Tax Rate % =

Dividends paid / Tax on
Dividends.
and 2014

Employee benefit
Expenses = Same as
previous year
Repeat the same for Cost

of Technical
Professionals, Other
Expenses and Effective
tax Rate
Similarly do for all

projected years

Depreciation Rate % =
Same as previous year
Repeat the same for

Purchase of fixed asset as
% of Revenue, Payout
Ratios % and Dividend
Tax Rate %
Similarly do for all

projected years

Link the cell to the

Revenue cell of the
Income Statement
Employee benefit
Expenses = Revenue x
Employee benefit
Expenses as % of
Revenue
Cost of Technical
Professional = Revenue x
Cost of technical
professional as % of
Revenue
Other Expenses = Revenue x

Other Expenses as % of Revenue

Fixed assets, Net = Prev.

Fixed Asset(Net) +
Purchase of fixed assets -
Depreciation
Depreciation = [Prev.
Fixed Asset(Net) +
Purchase of Fixed
Assets/2] x Depreciation
Rate %
Purchase of Fixed Assets

= Purchase of Fixed
Assets as % of Revenue x
Revenue

Tangible Assets = Prev.

Year Tangible
Assets/Prev. Year Fixed
Assets(Net) x Current
Year Fixed Assets(Net)
Intangible = Fixed
Assets(Net) - Tangible
Assets
Dividend Paid = Payout

Ratio % x PAT
Note: In the formula the cells of Tangible Assets and Fixed

assets(Net) are fixed to keep the ‘Tangible Assets as % of
Fixed Assets(Net)’ the same over the projection years.

Tax on Dividends =
Dividends Paid x
Dividend Tax Rate %
DPS = Dividend Paid /

Numbers of Basic Shares

Select Cells G8 to G42

and drag till column K.

Schedules is complete

Financial Modeling
Step – 5: Forecasting Income Statement

Linking forecasts back into the Income Statement
We will need COGS for

forecasting BS.
COGS = Employee Benefit
Expenses + Cost of
Technical Professionals
Copy formulae from cell

D37 and paste it till cell
K37.
Drag all the sub total

line items to partially
complete the Income
Statement

Link Employee benefit

Expenses, Cost of
Technical
Professionals, Other
Expenses and
Depreciation from
Schedules worksheet.

Total Provision for Tax

= EBT x Effective Tax
Rate %
Note: Effective tax

Rate % is calculated in
Schedules
Basic EPS =
PAT/Number of
Shares(Basic)
Diluted EPS =
PAT/Number of
Shares(Diluted)
Number of shares =
Previous year count

Select range G8 to
G34 and drag till
column K.

We have forecasted all possible items of the income

statement. The remaining items can be completed after
forecasting the Balance Sheet and cash Flow Statement.
Next step is to complete the Balance Sheet forecasts.

Financial Modeling
Step – 6: Forecasting Balance Sheet

Add Labels for calculating Balance Sheet Ratios
Before forecasting the

balance sheet, we need
to know certain ratios
and policy days of the
company. To determine
these values we add the
following labels below
the Balance Sheet
Historical Data

Computing Ratios
DSO = 365 x Avg. Trade
Receivables/Sales
Payable Days = 365 x Avg.

Trade Payables/ COGS
Interest Rate % = Interest

Expense/ Prev. year Long
Term Borrowing
Other Income Rate % =
Other Income/(Cash & Bank
Balance + Short Term Loans
& Advances + Non Current
Investments
When dealing with mixed
ratios remember to take the
Balance sheet metric as
average
Computing Ratios
Copy and paste the

formulae from cells E46:E49
to column F

Computing Ratios
DSO and Payable Days are

kept equal to Prev. years
value
Interest Rate % = Average of

previous years
Other Income Rate % is kept

constant at 8% considering
it the Fixed Deposit rate of
return

Computing Ratios
Select formulae from cells

G46:G49 and drag it till
column K

Projecting Balance Sheet

complete the Balance
Sheet

The forecasted value of

Share Capital, Other Long
term Liab, Long term
provisions, Other Current
Liab, Short Term Provisions,
Goodwill, CWIP, Non Current
Investments, DTA, Long
Term Loans and Advances,
Other non current assets,
Current Investments, Short
term Loans and Advances
and Other Current Assets
are kept equal to previous
years value.

Reserve & Surplus = Prev.
Year Reserve & Surplus + PAT
– Dividends Paid – Tax on
Dividends
Trade Payables = Payable

Days x COGS/365 x 2 – Prev.
Year Trade Payables
Link Tangible Assets and

Intangible assets to
respective cells from
Schedules worksheet

Trade Receivables = Payable

Days x Revenue/365 x 2 –
Prev. Year Trade Receivables

Select Range G8:G44 and

drag it till column K.
Don’t worry about the
mismatch of the checksum,
it will match once we have
completed the forecasting
of CFS.

Cash and Bank Balances will

be linked once CFS is
forecasted

Financial Modeling
Step – 7: Forecasting Cash Flow Statement

Cash Flow Statement Forecast

complete the Balance
Sheet

Link PBT and

Depreciation &
Amortization from the
Income Statement

(Increase in) Trade
Receivables = Prev. Year
Trade Receivables –
Current year Trade
Receivables
(Increase in) Trade
Payables = Prev. Year
Trade Payables –
Current year Trade
Payables
Direct Taxes paid is

linked from the Income
Statement.
Note: Minus sign is
used because Taxes
paid is an outflow of
cash

Payment towards Capital

Expenses is linked from
the Schedules worksheet
Proceeds from Long Term

Borrowings = Current year
Long Term Borrowings –
Previous year Long Term
Borrowings
Link the cells to the

respective Schedules
worksheet cells

Cash & Bank Balance =

EOP Cash + Amount in
Deposits
Amount in Deposits is kept

the same as that of
previous year until unless
any information disclosed
by the management

Select range G8:G71

and drag it till column K

The projection of CFS is

completed. Value of
PBT will change once
the Other Income
component is linked in
IS. As the linking is
done, it would show
the changes
automatically.

Financial Modeling
Step – 8: Completing Forecasts of

IS/BS/CFS
Completion of BS forecasts
Link the Cash & Bank

Balance Cell to the Cash
Flow Statement

Completion of IS forecasts
Other Income = Other

Income % x (Non
Current Investment +
Current Investment +
Cash & Bank Balances)

Completion of BS forecasts
Completion of linking
matches the Checksum
of the Balance Sheet.

Sum - Up
• After this Long Discussion on the projection of
financial statements, we are all set to find the intrinsic
value of the shares of the Persistent Systems.
• Now we will apply valuation theories on the Persistent
Systems Model, to find out the Intrinsic Value of
Persistent Systems.

Financial Modeling
Step – 9: DCF Valuation (Persistent

Systems Model)
Valuation - Persistent Systems
• In the Persistent Systems Model we have completed
the projection of financial statements
• Financial statements cannot be projected for infinite
time frame
• However Valuation of company will need cash flows
upto infinite as it is a Going Concern – Remain in
existence for foreseeable future
• So we take suitable estimate for forecasting the
remaining cash flows

Valuation - Persistent Systems
Valuation
Persistent
Systems
Relative DCF
Explicit
EV/Revenue Forecast (5
yr)
P/S
Linear
Decline (5 yr)
EV/EBITDA
Terminal
Value
P/E

Create Valuation Template
Add a new worksheet .

Rename it as DCF.
Use the template of KPIT
model to do the
valuation

For finding terminal To find out the weights

Value we need the long for the computation of
To find out the Cost of
term growth WACC, we need market
equity we use, Capital
assumption. Generally value of equity and value
Asset pricing Model
long term growth is of debt. Compute both in
(CAPM).
assumed to match with this section.
ke = rf + β (rm – rf)
World Economic Growth EV (Enterprise Value)=
at around 3% Mcap + Debt - Cash

Compute the weights. As

it’s a debt free company, WACC = wd * kd * ( 1 – t )
the debt component will + we * ke
be 0.

Computing Cost of Equity
Capital Asset pricing Rf = 8%, based on yield of GOI bond 10-Yr.

Model (CAPM). Generally government bonds are assumed
Ke = RFR + β x Rp to be risk free.
10 Year nifty CAGR is 16%. Rp = Rm – Rf =

16% - 8% = 8%
Beta = 1
Long term world GDP Value of Beta can be calculated
growth rate = 5%. Ref.:
Observe that http://proschoolonline.com/wp/financial-
assumptions are ‘Red” modeling-ed-series-calculate-beta-using-
excel/
Beta value can be obtained from public
sources like : in.reuters.com or
www.bloomberg.com

Computing Enterprise Value
Current price can be Mcap = Share Price *

taken from public Obtain diluted shares Diluted Shares
sources , like from the Income Long Term Liabilities =
in.reuters.com Statement Latest Reported Debt
Cash is latest reported

Net Debt = Long Term
cash (2013) in the EV = Mcap + Net Debt
Liabilities - Cash
balance sheet

Computing WACC
Compute the weights Interest rate can be

using Mcap and Debt obtained from the debt
schedule. We need to WACC = wd * kd * ( 1 – t )
use the interest expense + we * ke
Tax rate is the effective
tax rate % from the cost
metrics worksheet

DCF Valuation
Add the following labels Revenues, EBITDA , EBIT ,

to compute the Free Tax Expense is linked from
Cash Flow to Firm ( FCFF) the Income Statement.
Depreciation is linked from

the Income Statement and
Working Capital Change is
linked form the Cash Flow
Statement
Capex (Purchase of Assets

is
Addobtained from the
the following Cash
labels
Flow Statement
to compute the Free
Cash Flow to Firm ( FCFF)
FCFF = NOPAT +
Depreciation – Change in
Working Capital - Capex

DCF Valuation
Complete the FCFF

computation for the Explicit
Forecast period
Link the diluted number of

shares from the Income
Statement

DCF Valuation
PV of FCFF = FCFF / (1 +
WACC) ^ Projection Year
Calculate y/y% growth for

the major line items
The revenue growth rate

will be used to compute the
high growth for the linear
decline – H Model

DCF Valuation
Find margin % of major line

items. Margin analysis is
computed as % of revenues
For the linear decline

period we will assume
these margin % to remain
constant and compute the
other line items

DCF Valuation
Assume EBIT, D&A, EBITDA,

Linear decline in rev growth Assume working capital Capex margin % to remain
= (Previous y/y% - Terminal change to remain the same constant.
growth rate)/ 6 as of 2019-E Tax rate / EBIT to remain
constant as of 2019-E
Revenue growth rate during

linear decline period =
Previous y/y% - Linear
decline in rev growth
There are 6 periods

between 2016 and 2022
when we want to do the
projections

DCF Valuation
Compute the revenues
using the y/y growth
formula
EBITDA = EBIT +
Depreciation
EBIT = EBIT Margin *

Revenues
Depreciation = Dep. Margin

% * Revenues
Tax Expense = tax Rate *

EBIT
Capex = Capex margin % *
Revenues
Compute the PV of FCFF

DCF Valuation
Compute the incomplete

y/y% growth and margin %
values
All line items in the model

should be computed before
the model is handed-off to
the client

DCF Valuation
Compute the sum of PV of

FCFF from year 2015 to
Add labels as shown below 2024
to compute the intrinsic
Compute the terminal
value
value using Gordon Growth
Model
TV = FCFF(n+1) / (WACC – g)
PV of TV = Terminal Value
(2024) / (1+WACC) ^
Projection Year (2024)

DCF Valuation
Enterprise Value (EV) = Sum

of PV of FCFF + PV of TV
EV = Equity Value + Debt

Value - Cash
Intrinsic Value = Equity
Equity Value = EV – Debt + Value / Number of Shares
Cash

Building Sensitivity Table
Organize the data as shown

in here, to compute the
sensitivity analysis.
We will use the Data Table
function in excel to build
the sensitivity analysis We will sensitivities the
Terminal growth rate with
WACC to get a range of
intrinsic values for KPIT
Cummins

Add appropriate row and

column input in the data
table. Data table is present
in Data  What if Analysis
 Data Table

We need to add the master

assumptions in the table inputs.
Read the Row as what is present in
the row of the table? In our case we
have the terminal growth rate, so
connect the row input to the world
economic growth.
What is present in the column of
the table? In our case it is the
WACC, so connect the column input
to the WACC.

The sensitivity table gives

us an output that the value
of Persistent Systems
shares will range between
1454 and 1943, based on
the probable values of
terminal growth rate and
WACC.

Sum Up
• Thus we obtain a possible range of intrinsic Value
projections for the Persistent stock
• Our DCF Valuation range is between 1454 – 1943
• Current price of Rs.1313, makes it a buy as per the
DCF valuation method of fundamental valuation
• Next we will value the company with relative
valuation measures and Transaction Comps to get the
best price estimate.

Financial Modeling
Step – 10: Relative Valuation (Persistent

Systems Model)
Relative Valuation
Add the worksheet and

Add data of the following
name it as Trading
companies in the Public
Comps. Add labels as
Comps Data Worksheet
shown in the template

Relative Valuation
Link the data from Public

Comps Data worksheet

Relative Valuation
75th Percentile = Quartile(C9:C12,3)
Paste the formula till cell R15
Maximum = Max(C9:C12) Median = Median(C9:C12)
Paste the formula till cell R14 Paste the formula till cell
R16

Relative Valuation
Minimum = Min(C9:C12)
Paste the formula till cell R18
25th Percentile = Quartile(C9:C12,1)

Link the data from DCF-
Paste the formula till cell R17 Valuation Worksheet

Relative Valuation
Equity Value = 'DCF-Valuation'!G8

x 'DCF-Valuation'!G9 Link the data from Income
Statement Worksheet
i.e. Current Share Price x No: of
shares

Relative Valuation
Revenue Growth EBITDA Margin EBITDA Margin EBITDA Margin

= G20/F20 - 1 TTM Mar -14 = TTM Mar -15 = TTM Mar -16 =
I20/F20 - 1 J20/G20 - 1 K20/H20 - 1

Relative Valuation
EV/Rev TTM Mar-14 = P/E Multiple TTM Mar-14 =

Link the data
$E26/F9 $C26/L9.
from above
Copy and paste the Copy and paste the formula till cell
formula till cell K29 N29
Calculate values of Max, 75th Percentile, Median, 25th Percentile, & Min as calculated earlier

Relative Valuation
EV/ Rev = $E37/F20 P/E Multiple =

Link the data
Copy and paste the $C37/L20
from above
formula till cell K37 Copy and paste the
formula till cell N37
Financial Modeling
Step – 11: Transaction Comps (Persistent

Model)
Transaction Comps
Get the following data from paid

database provider or from any public
domain if available

Transaction Comps
Maximum = 75th percentile =

Max(E10:E13) Quartile(E10:E13,3)
Median = 25th percentile = Minimum = Select range

Median(E10:E13) Quartile(E10:E13,1) Min(E10:E13) E15:E19 and drag
it till column P.

Financial Modeling
Step – 12: Valuation Summary (Persistent

Model)
Valuation Summary
Link this data from the Trading Comp Link this data from the Trading
worksheet Comp worksheet

Valuation Summary
Rs.1250 is the 20 day prior

Link this data from the DCF-Valuation
stock price of Persistent
worksheet
Systems
Valuation Summary
Formula:
Minimum Multiple = (Applicable Persistent Figure
x Min Multiple – Debt + Cash)/Dilutes shares
=($G12*B12-'DCF-Valuation'!$G$11-'DCF- Copy the formula and

Valuation'!$G$12)/'DCF-Valuation'!$G$9 paste till cell L23

Valuation Summary
Min Multiple = Applicable

Persistent Figure x (1+Min
Multiple)
Copy formula and paste till
=$G26*(1+B26) L27

Valuation Summary
Link these cells to the DCF-

Valuation Worksheet

Session - 7
Step – 13: Synergies (Persistent

Model)

What are Synergies
• Synergy is a term that is most commonly used in the
context of mergers and acquisitions.
• It is the concept that the value and performance of
two companies combined will be greater than the sum
of the separate individual parts.
• Synergy, or the potential financial benefit achieved
through the combining of companies, is often a
driving force behind a merger.
• The expected synergy achieved through the merger
can be attributed to various factors, such as increased
revenues, combined talent and technology, or cost
reduction.
Synergy assumption in Model
• Economies of Scale
– KPIT Cummins has a better employee utilization as
compare to Persistent
– We assume a 5% increase in the utilization rate (In
Merger Model)
– Better resource management of the Acquirer can be
applied to Acquiree to gain from better utilization.
– Would be able to cross sale skill set and product line
since functional strengths can be transferable across
businesses.
– Common sales force & Common administration staff
would give an edge in terms of cost to combined entity
over individuals.
Synergies
Formula in these cells is

‘equal to last’
Link this data from the Income Link this data from the Merger
Statement Models Revenue Synergy % cell

Synergies
= No: of employees billed (avg) x

(1+% points inc in utilization)
Link this data from the Revenue Metric
Worksheet
Paste the formula till cell H14
Synergies
=Onsite Billed person months x

(1+%points inc in utilization)
=Offshore Billed person months x =IP ledperson months x (1+%points inc

(1+%points inc in utilization) in utilization)
Paste the formula till cell H20 Paste the formula till cell H21

Synergies
=Onsite billed employees x Onsite Billing

Rate (Linear) x Exchange Rate/10^6

=Offshore billed employees x Offshore
Billing Rate (Linear) x Exchange
Rate/10^6
=IP billed employees x IP Billing Rate

(Linear) x Exchange Rate/10^6
Total Revenue = Sum(D24:D26) Paste the formula till cell H26

Paste the formula till H27

Synergies
=Total Revenue – Revenue Services
Cost for servicing additional revenue

% = 20%
=Revenue Synergy x Cost of servicing

additional revenue %
=Revenue Services
Link the cells to Schedules worksheet
Link the cells to Merger

= Other Expenses – Model Worksheet
Decrease in Other Exp due Paste the formulas
to merger till column H

Synergies
='Income Statement'!G12+'Income
Statement'!G13+'Income Statement'!G16-
Synergies!D40
i.e. Employee Benefit Exp + Cost of Technical

professionals + Other Exp – Total Expenses (Cost
Synergy
Paste the formulas

till column H

Session - 7
Step – 14: Merger Model

Objective & Scenarios of Merger Model
• Develop a Statements of consolidated entity to reflect
various merger scenarios
• Merger Scenarios are based on different:
– Per share purchase price
– % of Stock used for transaction
– % of Term Loan used as part of Debt considered for
transaction
– % of High Yield Debt used as part of Debt considered for
Transaction

Assumptions of Merger Model
• Revenue Synergy as a result of the deal is assumed to
be 5%.
• Expense Synergy as a result of the deal is assumed to
be 5%.
• Per share price is assumed to 1350, 1400, 1400, 1450
and 1500 as 5 possible scenarios
• We assumed 0% cash to be used in the transaction
• % of Stock used in the transaction is assumed to be
60%, 100%, 50%, 40% and 35% as 5 possible scenarios
• % of Term loan used as % of Debt used in the
transaction is 50%, 50%, 30%, 50% and 50%.
Assumptions of Merger Model
• Forgone Cash Interest rate is assumed to be 5%.
• Term Loan interest rate is assumed to be 10%
• High-Yield interest rate is assumed to be 12%
• Financing Fees is assumed to 1% of the Debt used.
• Advisory Fees is assumed to 0.1% of the Equity
Purchase Price
• Legal & Misc Fees is assumed to 0.1% of the Equity
Purchase Price

Approach of Merger model
• Steps to be followed based on the different merger
scenarios:
– Defining sources and uses of funds
– Developing consolidated income statement
– Accretion / dilution analysis
– Breakeven synergy calculation
– What if scenario testing for synergies and premium for
acquisition

Merger Model
Add the following particulars

Merger Model
Enter following data and link the cells to

the respective worksheet of the model

Merger Model
Add following line

items in the column

Merger Model
Add following
assumptions
Add a drop down list with numbers

from 1 to 5 that will act a scenarios.
Name the cell as Scenario1

Merger Model
= Advisory fees% x
Equity Purchase
= Financing fees% x price
(Debt, Long
term + Debt, High
Yield)
= Legal & Misc fees%

x Equity Purchase
price

Merger Model
=CHOOSE(SCENARIO
1,I25,J25,K25,L25,M
25)
Copy and Paste the

formula till cell G45

Merger Model
Enter following
combination of
numbers for
different scenarios
= Per share purchase
price x Fully diluted
share outstanding
= Per share purchase

price x Share price -
1
Copy and paste the Insert the following

formula till column assumptions in the
M cells

Merger Model
= Financing Fees
= Advisory Fees +
Legal and Misc Exp
= Equity purchase
price + Transaction
fees
Enter the following

assumptions in the
cells
Copy and paste the
formula till column
M

Merger Model
= 1 - %Cash - %Stock
= %Cash x Funds
Required
= Funds Required x
%Stock
= Stock Used/Share
price
Copy and paste the
formula till column
M

Merger Model
= Funds Required x
%Debt x % Term
Loan
= Funds Required x
%Debt x (1 - % Term
Loan)
Enter the following

assumptions in the
cells
Copy and paste the

formula till column
M

Merger Model
=G38
i.e. Cash Used
= G39
i.e. Stock Used
=G41
i.e. Debt, Long Term
=G42
i.e. Debt, High Yield
=M52
i.e. Capitalized
Financing Fees
=SUM(G50:G54)

Merger Model
=G27
i.e. Equity
Purchase price
= Advisory fees =
Legal and Misc
Fees
=Financing Fees
=SUM(M50:M54)

Merger Model
Link the data from

Income Statement of
KPIT
Link the data from

Income Statement of
Persistent.
Operating Income =
EBIT – Other Income
Copy and paste the
formula till column M

Merger Model
=J61+J71
=-Synergies!E31
Link the data
=Synergies!E49 Synergies Worksheet
=SUM(J81:J82)
=J72+J62
=J82
Copy and paste the


Merger Model
=SUM(J85:J88)
=KPIT_IS!K27+'Incom
e Statement'!H9
=-$G$54*$G$43
i.e. Excess Cash x
Foregone Cash
Interest
=-$G$52*$G$44
i.e. Term Loan x
Term Loan interest
Rate
Copy and paste the


Merger Model
=-$G$53*$G$45
i.e. High yield Debt x
High Yield Debt
Interest Rate
=-$L$20/$M$20
i.e. Financing fees/
Financing Period
=SUM(J89:J97)
=J98*$G$16
i.e. Pretax income x
Buyers Tax Rate
Copy and paste the

Merger Model
= Pretax Income –
Book Taxes
=$G$11
i.e. Fully diluted
share outstanding
=$G$40
i.e. Common share
issued
=J103+J104
i.e. Diluted Share
Outstanding + Share
Issued in Transaction
Copy and paste the

Merger Model
=J102/J105
i.e. Net Income/New
share Outstanding
=KPIT_IS!K45
=J106/J107-1
i.e. EPS/EPS Buyer
Standalone
=(J107-J106)*J105/(1-
Copy and paste the $G$16)

Merger Model
=J108
EPS Accretion/Dilution
Select range D115:M124
Data Tab >> What If

Analysis >> Data Table
Row Input Cell = I35

Column Input Cell = I26

Merger Model
=J108
Select range D130:M140
Data Tab >> What If



Merger Model
=K108
Select range P115:M124
Data Tab >> What If



Merger Model
=K108
Select range P130:M140
Data Tab >> What If



Conclusion of Merger Model
• A 5% of Revenue synergy is not enough as the deal
turns out to dilutive, considering a price paid is above
the current share price (At the time of modeling)
• For a price range of 1350 – 1450, a revenue synergy of
7% and above results in an accretive deal.
• For the above discussed revenue synergy and price
range, a % Stock for purchase consideration could be
in a range of 0% - 50%.
• With a revenue synergy of 8%, price at Rs.1400 and a
%Stock used for purchase at 35%, the deal stands
accretive with a 6.6% implied premium.
Beyond M&A Modeling
• Similar models can be developed for LBO analysis
• Approach is similar, but focus is on debt
• More detailed merger analysis would involve the
forecasting of all statements of the consolidated entity
• In a M&A pitch, a pitch book is prepared along with
the Merger Model.
• A pitch book is a written presentation, containing the
details of a financing deal.
• It is designed to sell the services of the firm to a
prospective client that wants to raise funds or put
itself up for sale.
Way Forward
• A Pitch Book usually consists discussion of the
valuation that the investment banker places on the
prospective client, an analysis of the client's industry,
a listing of potential buyers, and the resumes of the
bankers who will be assigned to the client.
• Thus a Financial Model and a Pitch Book together help
Investment bankers crack a M&A deal
• HAPPY MODELING

Thank You…

Merger and Acquistions Theory

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Merger and Acquistions Theory

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Advanced Financial Modeling

Mergers and Acquisition Valuation

Copyright© - IMS Proschool Pvt. Ltd.

• Both entities continue to exist in a parent subsidiary relationship. Accounts are

• Initiator of the transaction

• Company being acquired

Statutory • Target is smaller than the acquirer

• Target becomes a subsidiary

3 Copyright© - IMS Proschool Pvt. Ltd.

Horizontal • Two businesses operate in the same industries

Merger • e.g. Tata Motors acquiring Maruti

• Acquiring company seeks to move up or down the value

• Two companies working in different industries merge

Merger • e.g. RJR – Cigarette company merged with NABISCO

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• EPS growth is only due to change in number of shares

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Securities Offering Cash Offerings

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Friendly Merger Offer Hostile Merger Offer

• Provides a provision to bondholders to ask for an immediate repayment of their bonds if

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Leveraged • Large debt used to refinance share repurchase by the target

• The target puts a counter offer to acquire the acquirer

• A friendly third party buys a minority share of the target

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• Determine which FCF model to used for analysis.

• Develop pro forma financial estimates.

• Calculate free cash flows using pro forma data.

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• Determine the terminal value and discount it back to the present.

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• Identify the set of Comparable Companies.

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• Estimate a takeover premium(TP) . A takeover premium is the amount that the

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Gains accrued to Target Gains accrued to Acquirer

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• Method of payment for merger defines the final gains for

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Developing M&A Model of

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• Step 1: Building Model Template

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