Valuation Aspect in Merger & Amalgamation 18 February 2017 Jyoti Bhatia
M&A Transaction – Key Drivers M&A Transaction – a corporate strategy dealing with the buying, selling, hiving and amalgamating of businesses / companies to help an enterprise grow inorganically. • Achieve growth and survive Strategic • To gain better competitive position / market access • Desire to be the market leaders – focus on core reasons competencies • To achieve economies of scale and scope - Synergies • Growth in terms of new technology, competence, Capability capability, or • market space through inorganic route acquisition • Diversification by entering into a new segment / geography Financial • Fund Raising • Utilization of excess cash Reasons • Cost synergies 2
Importance of Valuation
Valuations and the Deal Cycle Target Negotiations Post Transaction Post Identificatio and Term Diligence Structuring Transaction Exit n Sheet Adjustments and Closure Formalities Lender Compliance and Financial purposes Tax and Buyout / Exit Regulatory Asset / Dispute Valuations Valuation Valuation Entry valuation FMV Valuations FMV Valuations PPA and Pre deal PPA for Management / Portfolio Board Valuation Consideration For Merger and Demerger Valuation – an integral part of the deal 4
M&A – Valuation General Proposition In a merger / demerger valuation, attempt is not to arrive at absolute values • of the shares of the companies, but their relative values , on a stand alone and as is where is basis , to arrive at the exchange / entitlement ratio. A relative valuation is based on various methodologies and various • qualitative factors relevant to each of the companies and the business dynamics and growth potential of the businesses of respective companies. Evaluation on stand alone basis – post merger synergies not to be • considered . In a slump sale of an undertaking, attempt is to arrive at absolute values • of the undertaking and the consideration maybe discharged by cash / shares. In a merger and demerger wherein the economic and voting interest of the • shareholders remains the same (pre and post demerger), commercially no valuation is required . 5
Valuation
What is a Valuation? • Principles of valuation "Price is what you pay. Value is what you get." ‒ Business value vs Asset value - Warren Buffett ‒ Business value more than assets ‒ Absolute value vs Relative value Seller’s subjective value line ‒ Value hovers within a range not a precise number Value ‒ Valuation v/s price • 3 key points to remember: ‒ Valuation involves Buyer’s subjective value line “informed subjectivity” Perspective ‒ Price is different from value (set of assumptions) ‒ Deal is made at a Negotiated Price Area in which a market exists 7
Valuation – A Perspective What is being valued • Going concern Why it is being valued • vis-à-vis Valuation is relative to a Secure definition of “ value ” • liquidation specific point in time Context Premium for control, efficiency and Timing Basis synergy Forward looking Extent of and cash flows control key Premise Asset Earning Market Method Method Method 8
Where is the value What underpins the cash flows of this business - fixed assets, people (or one person), know-how ? People business Once you have worked out what drives the value make sure that it is still there after you have acquired the business! Asset business Brands Identifying key value drivers & key risk areas 9
Valuation in Real life Start-up Rapid Mature High Decline or Idea Expansion Growth Growth Companies Revenues / Earnings Revenues Earnings Time Non-existent or Revenue Revenue in high Revenue and Revenue / Revenue growth low revenue increasing/Income growth/Operating operating income slows/Operating Current /negative still low or income also growth drop income still Operations operating income negative growing growing Operating history Operating Some operating Substantial Very limited None can be used in History history operating history valuation Large number of Declining number More Comparable Some, but in None comparables, at of comparables, comparables, at same stage of Firms different stages mostly mature different stages growth Portion from Source of Entirely from More from Entirely future Mostly future existing existing assets Value existing assets growth growth assets/Growth than growth still dominates 10
Valuation Methodologies Earnings based Asset based • Discounted Cash Flow Net Asset Value • Earnings Capitalisation • Royalty Relief method • Contribution/ Excess Value of earnings method More than one right Business / way to value • Incremental Cashflows Equity / Approaches are not method Intangibles exclusive; but complement each other • Market Price • Comparable Companies Multiples Market based • Comparable Transaction Multiples 11
Valuation Methodologies Methods throw a range of values • Consider relevance of each methodology & premise of valuation – decide on primary and • corroborative methods Selecting the final value • Subjective weighting: • In professional judgement the conclusion is based on experience and judgment given the quality of information and the approaches applied Mathematical weighting • In mathematical weighting specific weights are assigned to each approach and the weighted average calculated Both methods require subjectivity since the weights selected in mathematical • Final Recommendation – common sense and reasonableness 12
Share Exchange Ratio Weightages considered in arriving at the relative fair value of the equity • shares are generally Net Asset Value Methodology 1 Market Methodology 2 Earnings Methodology 2 Generally predominant weightage given to market and earnings method • considering that the proposed merger is on a going concern basis 13
Scenario A Ltd. B Ltd. Subsidiary 1. Demerger B Division C Ltd. 2. Merger Company Ownership Business A Ltd. Listed Large Conglomerate • Presence in several businesses • Trading, Manufacturing and Marketing • B Ltd. Listed Large Conglomerate • Manufacturing, Retailing • B Division Segment Manufacturing • C Ltd. 100% subsidiary of Marketing and Distribution of the products • B Ltd. of B Division 14
Scenario – Valuation Approach Valuation A Ltd. B Division C Ltd. Methodologies Market Price Market price Cannot split market Not applicable • • Method reflects revenues capitalisation to reflect and profitability the value of the of several segment. businesses If significant segment, • one may derive from value of company / multiples. Comparable Multiples of Multiples of Multiples of • • • Companies companies manufacturing marketing Multiples Method comparable to companies applied to the and each business division results distribution Multiples adjusted to companies • reflect growth, capacity expansion in recent past, newly product launches etc. Relative valuation difficult as each company / division in • different segment, different risk reward profiles, governed by different laws 15
Scenario – Valuation Approach Valuation A Ltd. B Division C Ltd. Methodologies Discounted Free WACC and TVG Segment profit and loss WACC and • • • Cash Flow to be seen on a account and balance TVG to be Method relative basis sheet seen on a COE based on Segment projections relative • • several Cost allocations etc. basis • businesses WACC and TVG to be • seen on a relative basis Comparable Not much information available in public domain. • Transaction Transactions - non-control stake, strategic / financial • Method investments, synergies may not reflect in the price paid for the transaction. Due Diligence adjustments • Other Issues Weightages to different methodologies • Focus on resultant shareholding of A Ltd. since listed • 19
Issues in Valuation
Valuation - Issues & Challenges Accounting – different GAAPs • Jurisdiction – different regulations, settlement mechanism • Multiple currencies, valuation impact of volatility • Inter-holdings in merging companies • Deal Structure - Merger / Demerger / Slump Sale / Intangible • Structuring a deal - emerging sectors - Healthcare, Education – unorganized • sectors Exotic instruments – optionally convertible / differential voting rights • SEBI guidelines – Takeover / Preferential pricing, Takeover - Direct / Indirect, • Delisting / Open offer / Reverse Book Building Synergies • Premium / Discount • 20
Conclusion
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