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M&A
Source: www.ft.com
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Agenda
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Mergers & Acquisitions defined
Refer to the acquirer absorbing the entire Refer to the acquirer buying only a part of
target company. target company
Involve purchase of controlling stock Involve purchase of assets or a distinct
business segment (eg. subsidiary)
Both the acquirer and target lose their The acquirer and/or target retain their
respective identities after merger (eg. identity after merger. (Mahindra Satyam)
Glaxo Smithkline)
It is generally friendly in nature It can be a hostile take-over
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Transaction Structure - Amalgamation into an Existing Company
S1 S2
Co. 2
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Categories of M&A - Horizontal Integration
• Two firms in the same industry combine
• Typically the competitors Industry 1
• Motivation: To achieve
– Industry consolidation to exploit economies of scale, size and /
or scope
Firm 1 Firm 2
– Entry into a new geography
Firm 5
– Enhance product / services portfolio
• Examples Firm 3 Firm 4
– P&G acquiring Gillette
– Acquisition of equity stake in IBP by IOCL
– Bharat Forge’s acquisition of CDP (Germany)
– S&P’s stake in CRISIL
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Categories of M&A - Vertical Integration
Vertical Integration
finished goods
Industry 3
Customers of
Internalization of crucial forward
or backward activities
Firm 1 Firm 2
Firm 5
Firm 3 Firm 4
Supply Chain
Manufacturer
Buying your customer Buying your supplier
Producer /
Firm 1 Firm 2
Firm 5
• Two firms across the vertically integrated industries combine Firm 3 Firm 4
• Motivation: To achieve
– Control of aforward or backward activity in supply chain
Industry 1
– Secure Raw Materials
Raw Material
• Examples
Supplier
– Indian Rayon’s acquisition of Madura Garments Firm 1 Firm 2
Firm 5
– IBM’s acquisition of Daksh Firm 3 Firm 4
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Categories of M&A - Conglomerate
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Agenda
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Merger Motivations
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Motivations according to Industry life cycle
Size
Time
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Agenda
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Form of acquisition
Liabilities of target Acquiring firm assumes Usually the liabilities are avoided
target’s liabilities by acquirer in the transaction.
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Methods of payment
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Agenda
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Friendly Vs Hostile offer
• Friendly offer:
– Refer to the acquisition of a target company that is willing to be taken over.
– Usually, the target will accommodate overtures and provide access to confidential information to facilitate the
scoping and due diligence processes.
– Normally the process is started voluntarily by target company, but can be intiated by friendly overture by
acquirer seeking better information to value target.
Friendly Acquisition
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Friendly Vs Hostile offer (Cont…)
• Hostile offer:
– A takeover in which the target has no desire to be acquired and actively rebuffs the acquirer and refuses to
provide any confidential information.
– The acquirer usually has already accumulated an interest in the target (15% of the outstanding shares) and
this preemptive investment indicates the strength of resolve of the acquirer.
Hostile Acquisition
• Acquirer’s tactics:
– Bear hug: acquirer submits merger proposal directly to target’s board of directors
– Tender offer: acquirer offers to buy shares directly from target’s shareholders
– Proxy battle: acquirer seeks control over target by having target’s shareholders approve a new board of
directors chosen by acquirer. If successful, the new board may then replace target’s management and
execute a friendly merger.
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Understanding M&A Process - Typical Steps & Timelines
Fortnights
1 2 3 4 5 6 7 8 9 10 11
Preliminary Preparation and
Shortlisting of Buyers
Activity
Confirmatory due diligence
and Final Negotiations
Key external point
Finalize transaction
Key decision point documents
Closure
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Understanding M&A Process - Typical Terms
• Teaser
• Confidentiality Agreement / Non Disclosure Agreement
• Information Memorandum
• Business Model, Valuation - Methodology
• Synergies
• Building synergies into the model
• Preliminary bid – Non Binding Offer
• Due Diligence
• Term Sheet
• Final Bid – Binding Offer
• Negotiations: How do valuations change?
• Deal Closure
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Agenda
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Estimating Value
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Evaluating a merger bid
PT ( N PAT )
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Mergers & Acquisitions Analysis
• The typical M&A deal involves an acquirer company taking over (or merging with) a target company
• There are a variety of the reasons for you to analyze an M&A transaction:
– Your bank has a BUY-SIDE mandate (i.e. you are advising the acquirer)
– Your bank has a SELL-SIDE mandate (i.e. you are advising the target)
– Your bank has hired to provide a FAIRNESS OPINION to the Board of the acquirer or target
– You are working on a counter-bid (e.g. “white knight“ scenario)
– You are looking for potential M&A deals to pitch to clients
– You need to know more about a specific transaction
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Merger Analysis – Model Map
MERGER MODEL
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Merger Analysis- Steps
Inputs Outputs
1. Market Data 1. Deal summary
2. Share Information 2. Simple Sensitivity Tables
3. Balance Sheet Information 3. 2D Sensitivity Tables
4. Income Statement Information 4. Contribution Analysis
5. Valuation Summary 5. Analysis at Various Prices
6. Deal Assumptions
7. Sources and Uses Table
8. Combo Shares
9. Goodwill
10. Combo Balance Sheet
11. Combo EPS
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Target Ownership
Target Ownership
Market Data
Share Information
-Company Names
-Tickers
-Unaffected Shares Prices
-Prices Dates
-Offer Premium
Basic Share Diluted Share
Information Information
Offer Price
= Share Price *(1+ Premium)
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Target Ownership: Market Data
Target Ownership
Market Data
Share Information
-Company Names
-Tickers
-Unaffected Shares Prices
-Prices Dates
-Offer Premium
Basic Share Diluted Share
Information Information
Offer Price
= Share Price *(1+ Premium)
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Target Ownership: Basic Equity
Target Ownership
Market Data
Share Information
-Company Names
-Tickers
-Unaffected Shares Prices
-Prices Dates
-Offer Premium
Basic Share Diluted Share
Information Information
Offer Price
= Share Price *(1+ Premium)
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Target Ownership: Treasury Stock Method
Target Ownership
Market Data
Share Information
-Company Names
-Tickers
-Unaffected Shares Prices
-Prices Dates
-Offer Premium
Basic Share Diluted Share
Information Information
Offer Price
= Share Price *(1+ Premium)
• The diluted number of shares incorporates the potential From Latest Published
conversion into shares of all existing “dilutive” instruments (e.g. Financial Statements Treasury Stock
options, warrants, restricted stock units, convertibles etc.) Method
• Only include instruments which are in the money (i.e. the
instruments which are profitable for the holder to convert)
• For options, use the Treasury Stock Method
– Assumes any proceeds from the conversion of the options are
used to repurchase shares in the market
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Target Ownership: Treasury Stock Method Example
• Example:
Total outstanding shares: 1000 Strike Price: 5
Number of options: 100 Market Price / Offer Price: 12
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Target Ownership
Market Price of
Basic Shares Strike Price the Acquirer
No of Options
Outstanding Of Options
Outstanding
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Financing The Deal
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After-tax Merger Cost
Merger Cost
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Goodwill Calculation
Fair Value of
Purchase Net Assets
Price Acquired
GOODWILL
EQUITY
PURCHASE
PRICE New Intangibles
Net of Equity Purchase Price
the
related
Book Value of Equity
PP&E Deferred
Step-up
Tax
Liabilities
Advisory
Fees Book Value of
Equity Bought
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Deal Assumptions
• Interest on Acquisition Debt pre- tax: make a preliminary assumption. You will adjust it once you
know the leverage of the combo post- deal
• Interest on Acquirer’s Cash pre- tax: if the acquirer uses an existing cash balance to finance the deal,
it will lose some interests income. Estimate cash interest rate on cash based on the information you
have on the acquirer.
• Yearly synergies pre- tax: This is a preliminary assumptions on the cost synergies generated by the
deal, based on your views and/or what has been publicly announced
Use the acquirer’s marginal tax rate to calculate the interest rates post-tax
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Deal Assumptions
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Combo EPS Calculation
• Investors (current and Potential) are interested in the impact of the deal on the earnings of the Acquirer
• They will calculate the projected EPS for the Combo and will compare it with the projected EPS of the
acquirer stand-alone
• Several factors impact on the Combo EPS
– Acquirer Net Income
– Target Net Income
– Interest Expense on Acquisition Debt (post-tax)
– Lost interest on Acquirer’s Cash as part of funding (post-tax)
– Synergies(post- tax)
– Extra depreciation and amortization (post-tax)
– Number of new shares issued
• Investors usually calculate a Cash EPS, ignoring the impact of non-cash changes , such as the extra
depreciation and amortization generated by fair value adjustments
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Combo Full Model: Pro-Forma EPS
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Relative P/Es
• We can run a back-of-the-envelope EPS accretion/dilution analysis using a relative P/Es comparison.
• We do not even need to calculate the Combo EPS!!
• We need:
Offer Price
Acquisition P/E
Target Diluted EPS Forecast
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Cash P/E
Post - Tax Cost of Debt
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Relative P/Es – Stock Deals
• In an All-Stock deal
– Acquirer finances deal by issuing new shares
– The new shares are the currency used to purchase Target’s earnings
• If Acquirer P/E > Target P/E , deal is likely to be ACCRETIVE
– Target earnings are cheaper than Acquirer earnings
– Financing cost is lower than the expected return
• If Acquirer P/E > Target P/E , deal is likely to be DILUTIVE
– Acquirer earnings are cheaper than Target earnings
– Financing cost is higher than the expected return
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Contribution Analysis
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Analyzing the deal
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Thank You
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