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M&A > Key Rule #1 & #2 > Flashcards

Key Rule #1 & #2 Flashcards

1
Q

Why do M&A? (Macro reason)

A

acquirer will benefit from increased cash flow and profits

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2
Q

What does the discount rate mean to the acquirer?

A

the DR acquirer picks for the valuation of the deal is the minimum intended return of the deal

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3
Q

What is the IRR and DR if the target is undervalued?

A

IRR > DR

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4
Q

When is an acquisition made?

A

asking price < implied value (PV of future cash flows)

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5
Q

What are the 2 categories of M&A reasons?

A

financial and fuzzy

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6
Q

How do you tell if a target is undervalued?

A

selling price < implied price
IRR > DR

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7
Q

What should a deal do to the EPS?

A

neutral/ accretive

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8
Q

What is the definition of EPS?

A

Net Profit / common shares outsanding

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9
Q

What does EPS indicate?

A

profitability

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10
Q

An increase in EPS means what?

A

increase in profitability

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11
Q

Why do we care about EPS in M&A?

A

EPS reflects all effects of Acq

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12
Q

What is the difference between a merger and an acquisition?

A
  • M: closer in size, ownership split more impt
  • A: buyer much bigger
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13
Q

List the m&a funding sources from cheap to expensive

A

cash, debt, equity

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14
Q

What is the buyer’s first choice of funding?

A

excess cash

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15
Q

What are the 2 methods of using equity to fund m&a?

A
  • issue shares to others for $ then pay
  • issue shares to seller in exchange for their shares
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16
Q

What is the downside of using equity to fund your m&a?

A

dilute existing equity investors

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17
Q

What are synergies?

A
  • 2 cos tgt produce a result not independently obtainable (greater than a + b)
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18
Q

Why do synergies make firms want to m&a?

A
  • higher revenue
  • lower expenses by combining, elimiate redundant services
  • lower overall cost of capital
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19
Q

What are strategic reasons for M&A?

A
  • fill in strategic gaps
  • get access to certain channels
  • broader market access
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20
Q

What are biz reasons for m&a?

A
  • bargain purchase- cheaper to buy than to invest internally
  • diversification- achieve more long term growth and profitability in a mature industry
  • short-term growth- boost poor performance
  • undervalued target- target is a good investment eg. sponsor acquiring poorly performing cos
21
Q

How can you tell if an M&A deal makes sense?

A
  • is it undervalued? (IRR vs DR, target price vs implied value)
  • qualitative analysis- does it really achieve the biz aims
  • is it accretive? increase EPS?
22
Q

What is a merger model?

A

it measures estimated accretion/ dilution to an acquirer’s EPS from the impact of an M&A transaction

23
Q

Why do we use EPS when evaluating a merger?

A

only easy to calculate metric that capture’s deal’s full impact

24
Q

What aer the steps in a merger model?

A
  • get financial stats for buyer and seller
  • calculate purchase price
  • estimate cash debt stock percentage to fund deal
  • estimate weighted cost of acquisition
  • Is the deal accretive or dilutive?
  • combine both cos pre-tax incomes and adjust for acquisition effects
  • calculate combined NI and EPS
  • calculate EPS accretion/ dilution
25
Q

What financial stats do you need from each co?

A
  • Current EqV
  • projected NI for year aft deal closes
    and all the components
26
Q

What is the purchase price otherwise known as?

A

Purchase EqV

27
Q

What is the formula for Purchase Price (Purchase EqV)

A

current share price x (1 + control premium%) x no of shares

28
Q

why does buyer pay a control premium?

A
  • buyer acquiring the shares -> changing supply & demand for shares
  • existing shareholders will demand premium if asked to give up 100%
29
Q

How do you make sure the Purchase Price is reasonable?

A
  • value the seller- DCF etc.
  • look at comp deals: is % premium within range?
30
Q

How do you determine how much equity to use in the purchase price?

A

only to degree which deal is accretive

31
Q

What is the weighted cost of acquisition?

A

how much buyer is giving up in %tage terms to acquire seller

32
Q

What is the formula for weighted cost of acquisition?

A

% cash used x after tax cost of cash +
% debt used x after tax cost of debt + % stock used + after tax cost of stock

33
Q

What interest rate do you use to calculate after tax cost of cash in WCA?

A

the rate that the co is earning on its cash balance

34
Q

How do you calculate after tax cost of debt for WCA?

A
  • YTM of buyer’s current debt or
  • YTM of peer companies debt or
  • buyers average interest rate slight adddition b/c ot risk of acq
35
Q

How do you calculate after tax cost of equity for WCA?

A

buyer NI / buyer EqV
(reciprocal of buyer’s PE mult)

36
Q

What is yield of the premium?

A

how much buyer gets in NI for each $1 it spends to acquire seller

37
Q

How do you calculate yield of premium?

A

seller NI/Purchase EqV

38
Q

If not 100% all stock deal, how do you know if deal is accretive/ dilutive/ neutral?

A

WCA vs Yield of Seller
< = accretive
= neutral
> dilutive

39
Q

If 100% all stock deal, how do you know if deal is accretive/ dilutive/ neutral?

A

Buyer P/E vs Seller P/E at purchase price
> accretive
= neutral
< dilutive

40
Q

when buyer uses debt, what adjustments need to be made to combined pre-tax incomes?

A
  • need to pay interest on debt in future
  • decrease pretax income, decrease NI, decrease EPS
41
Q

when buyer uses stock what, what adjustments need to be made to combined pre-tax incomes?

A

additional shares outstanding in the future
decrease EPS

42
Q

when buyer uses cash, what adjustments need to be made to combined pre-tax incomes?

A
  • subtract Forgone interest income on cash - b/c give up future interest income on that cash
    decrease pretax income, decrease ni, decrease eps

b/c it’s a true cash cost b/c in combined pre-tax income already added that therefore need to subtract

43
Q

how do you calculate buyer shares issued?

A

(purchase price x % stock) / buyer share price

44
Q

what is combined ni formula?

A

combined pretax income x (1 - buyers tax rate)

45
Q

what is total shares outstanding

A

shares issued in deal + buyers existing share count

46
Q

formula for combined EPS?

A

combined NI / total shares outstanding

47
Q

what happened to all the seller’s shares?

A

gone

48
Q

EPS and accretion/ dilution

A

combined EPS v buyer standalone EPS before deal
> accretive
= neutral
< dilutive

M&A (6 decks)

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