Cross Border M&A

Cross Border Acquisition Process

Stage I Identification & valuation of the target Stage II Completion of the ownership change transaction (the tender) Stage III Management of the post-acquisition transition; integration of business and culture

Strategy & Management

Financial Analysis & Strategy

Valuation & negotiation

Financial settlement & compensation

Rationalization of operations; integration of financial goals; achieving synergies

Stock Valuation

The worth of something is its benet stream divided by an appropriate discount rate

Not just one benet stream Not just one discount rate

Steps
Determine benet stream Compare benet stream to its history Compare benet stream to its industry Adjust forecast as necessary based on analysis Choose discount/multiple consistent with the benet.
Enterprise vs Equity Market approach vs Income approach vs Cost Approach

Steps (cont)
Determine value at chosen level Adjust for non-participants at chosen level Further adjust for control, marketability, and liquidity

What Benet Stream?

Cash Flow vs Earnings

Cash Flow
Represents type of stream investors seek

Earnings
Easy to identify

Basis for data in Ibbotson Considers balance sheet requirements

Requires cash to earnings conversion factor Ignores balance sheet requirements Morgan&Company
A Strategy Implementation Consulting Group

Determining Free Cash Flow

Net income Add: Income tax provision Add: Interest expense Earnings before interest & taxes (EBIT) Less: CASH taxes (Provision adjusted for deferred taxes and tax effect of interest) Net Operating Prot after Tax (NOPAT) Add: Depreciation & amortization Add (Subtract): Working Capital Decreases (Increases) Subtract: Capital expenditures Add (Subtract): Decreases (Increases) in Operating non-current assets Free Cash Flow $1,807 1,194 835 3,836 1,552 2,284 1,762 (284) (1,771) (6) $1,985

Historical vs Projected
Historical
Linear benet stream Capitalization Tax or divorce valuation

Projected
Non-linear benet stream Discount rate

Non-tax and some litigation Start-up or emerging/ changing business Morgan&Company

A Strategy Implementation Consulting Group

Mature company

The difference between discounting and capitalizing is in how we reect changes over time in expected cash ows:
In discounting: Each future increment of return is estimated specically and put in the numerator. In capitalizing: Estimates of changes in future returns are lumped into one annually compounded growth rate, which is then subtracted from the discount rate in the denominator.
Source: Shannon Pratt

Morgan&Company
A Strategy Implementation Consulting Group

Enterprise Value = PV of FCF

What is a constant growth stock? One whose free cash flow is expected to grow forever at a constant rate, g.
Source: Brigham Ehrhardt

For a constant growth stock,

If g is constant, then:

Source: Brigham Ehrhardt

Whats the stocks market value? D0 = 2.00, ks = 13%, g = 6%.

Constant growth model:

=
Source: Brigham Ehrhardt

$2.12 0.13 - 0.06

$2.12 0.07

$30.29.

What is the stocks market value one ^ year from now, P1?
D1 will have been paid, so expected dividends are D2, D3, D4 and so on. Thus,

$32.10.

Source: Brigham Ehrhardt

If we have supernormal growth of 30% for 3 years, then a long-run ^ constant g = 6%, what is P0? k is still 13%.
Can no longer use constant growth model at t = 0. However, growth becomes constant after 3 years.

Source: Brigham Ehrhardt

Nonconstant growth followed by constant growth:

0
ks=13% g = 30%

1
g = 30%

2
g = 30%

3
g = 6%

4 4.6576

D0 = 2.00 2.3009 2.6470 3.0453

2.60

3.38

4.394

46.1135 ^ 54.1067 = P0 in s 1.9628 Conversion rate = USD / , 2/14/07 ^ in USD 106.2006 = P0

Source: Brigham Ehrhardt

If g = -6%, would anyone buy the stock? If so, at what price?

Firm still has earnings and still pays ^ dividends, so P0 > 0:

$2.00(0.94) $1.88 = = = $9.89. 0.13 - (-0.06) 0.19

Source: Brigham Ehrhardt

Continuing Value or Terminal Value

CV = Free Cash FlowT+1 WACC g

Approaches
Income Market Cost

Income Approach Buildup Method to get Ks

Ibbotson Build-Up
ks = rf + ERP + SP + SCR
ks = cost of equity rf = expected return of riskless asset ERP = expected equity risk premium SP = size premium SCR = specic company risk
Customer concentration, key person dependence, supplier concentration, abnormal competition, unstable regulatory environment, pending lawsuits, etc.

Morgan&Company
A Strategy Implementation Consulting Group

Illustration - Ibbotson Build-Up

Safe rate Equity risk premium Small stock premium Specific company risk After-tax net cash flow discount rate Long-term sustainable growth After-tax net cash flows cap rate for next year Divide by: 1 + growth rate After-tax net cash flow cap rate for this year Cash to earnings factor After-tax net income cap rate for this year Intangible earnings factor After-tax intangible cap rate for this year Divide by: 1 - tax rate Pre-tax intangible cap rate for this year or Pre-tax net income cap rate for this year = 37.37% + + + = = / = + = + = / = 5.60% 7.00% 3.00% 5.50% 21.10% 3.00% 18.10% 1.03% 17.57% 5.97% 23.54% 5.00% 28.54% 63.00% 45.31%

Morgan&Company
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Market Approach - CAPM Method to get Ks

CAPM
ks = rf + (B*ERP)
ks = cost of equity rf = expected return of riskless asset ERP = expected equity risk premium B = beta

Morgan&Company
A Strategy Implementation Consulting Group

Determining WACC
WACC = (kd * % of debt to total capital) + (ke * % of common to total capital) + (kp * % of preferred to total capital)

Apply Discount Rate to Benet Stream

Morgan&Company
2007. All rights reserved. A Strategy Implementation Consulting Group

Enterprise to Equity Calc

Subtract interest bearing debt,
Apply appropriate premium/discount for control, marketability or liquidity,
Then convert to per share basis
Morgan&Company
2007. All rights reserved. A Strategy Implementation Consulting Group

Morgan&Company
2007. All rights reserved. A Strategy Implementation Consulting Group

Levels of Value
Public ly Trad ed Eq

uivale

nt

Source: National Association of Certied Valuation Analysts

Morgan&Company
A Strategy Implementation Consulting Group