Picasso - M&A Questions Flashcards
Walk me through an accretion/dilution analysis.
Goal of the analysis: does the transaction make sense financially given the expected synergies, new economics, and cost of acquisition?
(“Quick and Dirty Merger Analysis”)
- Project financials out 1-2 years for buyer and target
- Calculate expected pre-tax synergies from a merger
- Consideration used. New cash balance and capital structure - make your PF I/S and B/S adjustments
- New D&A, new interest, lost interest income
- Compare the PF EPS (accounting for shares issued if any) to standalone EPS. If it’s greater, then the txn is accretive
Shares = acq shares + shares issued to acquire
If you merge two companies, what does the pro-forma income statement look like? Discuss whether you can just add each line item for the proforma company. Please start from the top.
- Sum everything above the line
- Account for any revenue / cost synergies, economies of scale, cross selling abilities, etc. (fixed costs have more potential for synergies)
- Excess D&A
3a. . New interest expense - New tax rate if you operate in new jurisdictions; NOLs assumed may lower
- NI
What is a merger model?
Determine if the merger makes sense from an accretive /dilutive analysis
What is a stock swap?
Issue stock in the buyer to the target’s shareholders
Are most mergers stock swaps or cash transactions? Why?
Cash?
- Cash is king. Easily quantifiable. Value of consideration does not depend on PF performance
However in hot stock markets, markets are hot and sellers believe in the continued growth
Which method would a company prefer to use when acquiring another company: cash, stock or debt?
Depends on the cost of each.
- Cash = Lost interest income. Also you have less cash on the balance sheet which may hurt credit rating or market value
- Stock = P/E?
- Debt = incremental cost of debt? Can you refinance your whole cap stack?
With unlimited resources, cash! Cheapest
What is a merger?
Merger of two companies similar in size, forming a new entity
What is an acquisition?
One company acquires the other, and the target’s original brand may dissolve and redundant employees laid off.
What factors can lead to the dilution of EPS in an acquisition?
- Operating performance
- Cost of debt
- Synergies do not materialize
At the onset
- PE of target greater than buyer
- write up of D&A and amort
If a company with a low P/E acquires a company with a high P/E in an all stock deal, will the deal likely be accretive or dilutive?
Dilutive. Buyer has a higher cost of equity than the target’s earnings yield
What is goodwill and how is it calculated?
Excess Value from the purchase that cannot be allocated to intangibles or existing net assets. Accounting plug!
Consideration
less: FV NIA (Eq. less existing goodwill plus write ups)
plus: any DTLs recognized
= New Goodwill
What are the three types of mergers and what are the benefits of each?
- Horizontal
- Take out competitors. Econ of scale - Vertical
- Reduce bargaining power of suppliers or customers. Higher valuation from an end to end provider - Conglomerate
- Diversification, market expansion
What major factors drive mergers and acquisitions?
- Financial sense
- Synergies
- Depressed valuations
- Exit underperforming segment / enter attractive industry
- Diversification
- Complemenatary product mix
- Control distribution channel, supply chain, etc.
- Ego. Pressure to expand and put capital to work
- Acquire technology or clients
- Opp to consolidate industry
- Brand
What are a few reasons why two companies would not want to merge?
- Culture
- Not merging for the right reasons
- Aggresive reliance on synergies
- IB and advisor fees
- Cost of debt capital
- Macro / external / regulatory (DOJ) reasons
- Customers may not carry over
Explain the concept of synergies and provide some examples.
1+1=3
Revenue and cost synergies
Revenue = cross sell products, more bargaining power and can raise prices , complementary markets and distribution channels
Cost = bargaining power with suppliers reducing COGS, redundant overhead (SG&A), redundant fixed assets, leases, office spaces, IT infrastructure
However, you will have costs to realize these synergies
- Integrating IT and ERP
- Training
How do you calculate fully diluted shares?
Current shares O/S + shares from in the money converts + TSM method for options
If our calculation is for a minority interest based valuation methodology (i.e. comparable companies) we will use only options exercisable.
If our calculation will be used for a control based valuation methodology (i.e. precedent transactions) or M&A analysis, use all of the options outstanding.
If the exercise price of an option is greater than the share price (or purchase price) then the options are out-of-the-money and have no dilutive effect.
