Chapters 1 and 2

Learn as much as possible about the target and then complete the following steps: 1. Select the universe of comparable firms 2. Locate the necessary financial information 3. Calculate key statistics, ratios, and trading multiples 4. Benchmark the comparable firms 5. Determine valuation

 MV = Stock Price * Fully Diluted Shares Outstanding  FD Shares Outstanding = Basic Shares Outstanding + In-the-Money Options and Warrants + In-the-Money Convertible Securities  options and warrants – Treasury Stock Method current share price = $35 basic shares outstanding = 500 in-the-money options = 15 weighted average strike = $25  assumptions for convertible: amount outstanding = $300 conversion price = $20

 need relevant trading multiples for comparables universe ◦ measure of market valuation in the numerator ◦ measure of financial performance in the denominator  EV/EBITDA – independent of capital structure and taxes ◦ also free from problems that come from differences in D&A

 Pros: ◦ market-based ◦ relativity ◦ quick and convenient ◦ current  Cons: ◦ market-based ◦ absence of relevant comparables ◦ potential disconnect from cash flow ◦ company-specific issues

 employs a multiples based approach to derive an implied valuation range for a given firm  transaction comps may provide higher multiple range than trading comps ◦ Why?  considerations when selecting comparable transactions ◦ Was acquirer a strategic buyer or a financial sponsor? ◦ What were the buyer’s and seller’s motivations for the transaction? ◦ Was the target sold through an auction process or a negotiated sale? Was the nature of the deal friendly or hostile? ◦ What was the purchase consideration (mix of cash and stocks) ?

 form of payment and financing practices vary with economic cycle  form of payment matters  choice of form of payment is influenced by factors outside the firm  links exist between form of payment, financing, and price  financing choice decisions benefit from viewing from perspective of investor, creditor, and competitor

 returns to target shareholders ◦ payment in cash – target returns significantly higher ◦ payment in stock – target returns significantly positive but lower than ones in cash deals  returns to buyer shareholders ◦ payment in cash – returns are zero to positive ◦ payment in stock – returns are significantly negative  tender offers amplify cash versus stock effect ◦ with tender offers paid in cash, returns to buyers are even higher and returns from offers paid in stock are even lower

 some shareholders prefer cash over stock because of “guaranteed” value while others prefer the opposite to participate in upside potential of combined firms  primary types of consideration ◦ all cash ◦ stock-for-stock  fixed exchange ratio  floating exchange ratio ◦ cash and stock

 Pros: ◦ market-based ◦ current ◦ relativity ◦ simplicity ◦ objectivity  Cons: ◦ market-based ◦ time lag ◦ existence of comparable acquisitions ◦ availability of information ◦ acquirer’s basis for valuation