University of Applied Sciences Kufstein/Austria

www.fh-kufstein.ac.at

Mergers & Acquisitions &

Corporate Restructuring
(MACR)

Prof. Dr. Markus W. Exler

UNIVERSITY OF APPLIED SCIENCES
Fachhochschule Kufstein
Andreas Hofer-Straße 7
A-6330 Kufstein/Austria
0043-(0)5372-71 819-213
www.fh-kufstein.ac.at
markus.exler@fh-kufstein.ac.at

Ghaziabad, October 2010

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Preface
The course of Professor Exler shall provide an overview about the fundamental un-
derstanding of how Mergers and Acquisitions processes are working with the
steps of enterprise evaluation, Letter of Intent, Due Diligence and finalization the
contracts.

Corporate Restructuring based on a financial analysis according key ratios like

Equity-Portion, Return on Investment (ROI), Debt Coverage, Interest coverage and
Working Capital-ratio. Main issues of corporate crisis are strategic crisis (decreasing
market competence, expensive investments, decreasing enterprise value), perfor-
mance crisis (decreasing EBITDA, negative net income, rentability < capital costs)
and liquidity crisis (less cash flow and increasing debts).

On a long term perspective companies have to increase the profitability over the
capital costs. Which means the Return on Capital Employed (ROCE) should be
higher than the capital costs according Weighted Average Cost of Capital (WACC).
The value management-concept is at the moment “State of the Art” in the context of
stock listed companies.

The company needs instruments for financial restructuring like a capital increase,
divestments with fixed assets, reduction of current assets, reduction of personal and
material costs etc. Corporate restructuring could mean debt restructuring or selling
the shares according the guidelines of an M&A-process with a Management buy-Out
or with an involvement of a strategic or finance investor. An alternative solution is an
Initial Public Offering (IPO).

The lessons of Dr. Exler are structured with a mix of theoretical input and preparing
case studies with group discussions. The case studies are real business cases out
of the consulting work from the lecturer. This document is based on a modular sys-
tem with the content of financial analysis, corporate restructuring and Mergers &
Acquisitions. Looking forward of a constructive dialogue during the lessons.

Ghaziabad, October 2010

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Contents

I. Financial analysis in the corporate restructuring- and M&A-Process

1. Analysis with key ratios
2. Case Study 1: Financial Analysis, DCC / Reha
3. Discounted Cashflow-Method and other evaluation methods
4. Case Study 2: Enterprise Valuation, DCC / Reha
5. Financial performance management
6. Case Study 3: Value Management-Concept, DCC / Reha

II. Mergers & Acquisitions-Activities

7. Market development in Germany
8. Handling of an M&A-deal and transaction design
9. Business evaluation
10. Case Study 4: Transaction of DCC / Reha

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Case Study
DCC, plc, Ireland / Reha GmbH, Germany

1. Products Reha GmbH, Germany

Scooter Hospital beds Walking frame

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2. Financial Statement Reha GmbH, Germany

Balance sheet Reha GmbH (in T€)

A. Fixed assets A. Equity

I. Intangible fixed assets 137 I. Registered capital 878
II. Tangible assets II. Retained earnings 680
1. Land and buildings 2,459 III. Profit 1,214
2. Plant and equipment 10 B. Provisions
3. Factory and office equipment 540 1. Tax provisions 119
B. Current assets 2. Other provisions 332
I. Inventories 1,853 C. Liabilities
II. Receivables and other assets 1. Bank loans and short term credit 4,373
1. Trade accounts receivable 2,227 2. Trade accounts payable 871
2. Other assets 907 3. Other liabilities 5
III. Cash, cash equivalents 271
C. Prepaid expenses 68
8,472 8,472

Income Statement Reha GmbH (in T€)

1. Revenue 20,786
2. Increase or decrease in finished goods inventories and work in process 95
3. Total revenue 20,881
4. Other income
a. Ordinary operating income 90
b. Liquidation income provisions 10
c. Liquidation income special item with an equity portion 300
5. Cost of materials
a. Cost of raw materials, consumables and supplies and of purchased merchandise 13,308
b. Cost of purchased services 35
6. Staff costs
a. Wages and salaries 1,331
b. Social security and pension expenses 268
7. Depreciation, amortization and impairment losses 233
8. Other operating expenses
a. Ordinary operating expenses 4,269
b. Losses of impairment and of reduction current assets 162
9. Financial income 9
10. Financial costs 227
11. Income from continuing operations before tax 1,457
12. Taxes on income 242
13. Other taxes 1
14. Net income 1,214
Note: Real Estate Investment with 1.8 mil €, Long term bank liabilities 3.2 mil €

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3. Previous year Financial Statement Reha GmbH, Germany

Previous year balance sheet Reha GmbH (in T€)

A. Start up costs 21 A. Equity

B. Fixed assets I. Registered capital 878
I. Intangible assets II. Retained earnings 680
II. Tangible assets
1. Land and buildings 184 B. Special item with an equity portion 300
2. Plant and equipment 15
3. Factory and office equipment 144 C. Provisions
4. Prepayments on tangible assets and 1. Tax provisions 98
construction in progress 266 2. Other provisions 139
C. Current assets
I. Inventories 1,217 D. Liabilities
II. Receivables and other assets 1. Bank loans and short term credit 1,335
1. Trade accounts receivable 1,622 2. Trade accounts payable 1,056
2. Other assets 188 3. Other liabilities 12
III. Cash, cash equivalents 719
D. Prepaid expenses 47
4,498 4,498

Previous year income statement Reha GmbH (in T€)

1. Revenue 14,393
2. Increase or decrease in finished goods inventories and work in process 0
3. Total revenue 14,393
4. Other income 22
5. Cost of materials
a. Cost of raw materials, consumables and supplies and of purchased merchandise 8,835
b. Cost of purchased services 37
6. Staff costs
a. Wages and salaries 857
b. Social security and pension expenses 161
7. Depreciation, amortization and impairment losses 129
8. Other operating expenses
a. Ordinary operating expenses 3,120
b. Losses of impairment and of reduction current assets 85
c. Expenses special item with an equity portion 300
9. Financial income 8
10. Finance costs 157
11. Income from continuing operations before tax 742
12. Taxes on income 98
13. Other taxes 2
14. Net income 642

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Case Study 1
Financial Analysis
DCC, plc, Ireland / Reha GmbH, Germany

Golden balance-sheet rule

1. How do you judge the financing structure of tangible assets?

Profit analysis
2. Interpretation of correlation cost of materials and total revenue.
3. What ratios are useful about improvement in productivity?
4. What are the reasons about financial costs?
5. Is the company profitable?

Structure of assets, equity and liabilities

6. What is the interpretation of asset structure?
7. How do you judge the structure of current assets?
8. How do you judge the equity ratio? (1)
9. What is the relation between capital structure and investment ability?
10. How do you judge the revenue reverse (retained earnings)?
11. Development of Cash flow and net income?
12. How many years will the company need to return the bank liabilities? (3)

Profitability
13. Development of Return on equity (ROE)?
14. Development of Return on Investment (ROI)? (2)

Debt
15. How do you judge the debt and interest situation? (4)
16. Development of Working Capital? (5)

Evaluation of financial situation

17. What highlights would you fix in an advisory report?
18. Which informations and documents could be useful for your financial opinion?
19. Would you like to get a M&A mandate to sell the company?

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Advisory report: Reha GmbH

Rating criterions + Score -

I. Financial analysis 1 2 3 4 5 6 7 8

(1) Equity ratio

(2) Return on investment (ROI)
(3) Loan redemption
(4) Interest cover
(5) Working capital-ratio

II. Management analysis

III. Value management

(6) Return on capital employed (ROCE)

(7) Weighted average cost of capital (WACC)
(8) Value added (VA)

IV. Final score: _____

Rating criterions
Score 1 2 3 4 5 6 7 8
AAA AA+ bis AA- A+ bis A- BBB+ bis BBB- BB+ bis BB- B+ bis B- CCC+ bis C- DDD bis D

(1) > 30 % 25 – 30 % 20 – 25 % 15 – 20 % 10 – 15 % 5 – 10 % 0–5% <0

(2) > 20 % 15 – 20 % 10 – 15 % 8 – 10 % 6–8% 4–6% 1–4% <0
(3) < 3 years 3 – 5 years 5 – 8 years 8–10 years 10-15 years 15-20 years 20-30 Jahre > 30
(4) > 19 14 – 19 10 – 14 7 – 10 4–7 2.5 – 4 0.5 – 2.5 < 0,5
(5) > 200 % 175–200 % 150-175 % 130-150 % 120-130 % 110-120 % 100-110 % < 100 %

Interest
without 0.6 % 1.6 % 3.8 % 5.5 % No Credit!
increase

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Case Study 2
Enterprise Valuation
DCC, plc, Ireland / Reha GmbH, Germany

First purchase price indication

1. Which first price indication follows from the “net assets valuation-method” and
the “Multiplier-method”?

Free Cash flow

2. What are the discounted free cash flows of an investment period of the next 5
years?

The estimated operative cash flows are 1,851 T€ (1st year), 1,893 T€ (2nd year),
1,936 T€ (3rd year), 1,979 T€ (4th year) and 2,024 T€ (5th year). The residual
value for the Terminal Value should be announced with 80 %. The investment
amount are the depreciations of 250 T€ each period.

Discount rate
3. What are the capital costs after tax, the Weighted Average Cost of Capital
(WACC)?

Cost of debt after tax

Average cost of debt: 12.5 %

Tax rate for debt: 36.0 %

Proportion of debt: 67.0 %

Cost of equity after tax

Risk-free interest rate: 4.0 % (government bond)

Market premium: 5.0 %

Beta factor: 0.9 (from the potential investor)

Proportion of equity: 33.0 %

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Net debt
4. What are the amounts of interest driven liabilities (bank liabilities) and cash &
cash equivalents?

Equity value
5. Which enterprise value follows from the “Discounted Cash flow-Method” (DCF)?

Final purchase price

6. Which is the bargaining range in the negotiating process between the vendor
and the investor?

Financial ratios

Income from operating activities of continuing operations

- Operating costs
= EBITDA
- Depreciations and Amortizations
= EBIT
+ Financial income
- Financial costs
= Income from continuing operations
+ Extraordinary income
- Extraordinary costs
= Income from continuing operations before tax
- Taxes on income
= Net income
+ Non operating costs
+ Unrelated to accounting period
+ Extraordinary
+ Valuation driven
- Imputed cost categories
- Nonoperating income

= Adjusted net income

- Additional investments
- Working Capital

= Distributed net income

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Case Study 3
Value Management-Concept
DCC, plc, Ireland / Reha GmbH, Germany

Investment project
1. The managing director has to check an investment alternative, a business build-
ing in a business park area. The bank offers a bank loan to the amount of 1.8 m
€ with an annual interest rate of 5.8 % and a credit duration of 12 years.

 The budgeted conditions of bank loan are consolidated in the actual financial
statement.
 The evaluation of the project should be prepared with the additional abso-
lute value added (cash value added, CVA). Relative value added is the dif-
ference between operating return (ROCE) and capital costs (WACC). Abso-
lute value added is the multiplication with the capital employed results.
 The pure operating return are reflected by the return on capital employed
(ROCE). The ROCE is calculated by dividing the adjusted operating result
(NOPAT) by capital employed (NOA).
 The capital costs after tax should be calculated with the weighted average
cost of capital (WACC).
 (6), (7) and (8) are additional rating criterions “value management” in the ad-
visory report

Operating result
2. The adjusted net operating profit after tax (NOPAT) is the income from operating
activities and income from investments, excluding income from non-operating
result and imputed cost categories.

Capital employed
3. Net operating assets (NOA) consists of the positions intangible assets, property,
plant and equipment, trade accounts receivable, other assets, prepaid ex-
penses, but excluding non-interest-bearing provisions, non-interest-bearing li-
abilities and non-interest-bearing other liabilities, plus adjustments to average
capital employed.

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Operating return (6)

4. What is the result and interpretation of return on capital employed (ROCE)?

Capital costs (7)

5. What is the weighted average cost of capital (WACC) in consideration of the
offered interest rate for the bank loan?

Cost of debt after tax

Average cost of debt: 9.8 %

Tax rate for debt: 35.0 %

Proportion of debt: 70.0 % (average)

Cost of equity after tax

Risk-free interest rate: 3.8 % (government bond)

Market premium: 5.5 %

Beta factor: 1.2 (not listed company)

Proportion of equity: 30.0 % (average)

Value added (8)

6. What is the result of additional absolute value added as a central management
benchmark, the cash value added (CVA)? Is the investment project realisable in
the context of creating additional enterprise value?

Note: www.sternstewart.com

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Case Study 4
Transaction of DCC plc, Ireland / Reha GmbH, Germany

The main steps of a transaction process are:

I. Information period
(1) First contact
(2) Product and market analysis
(3) Financial analysis
(4) First purchase price indication
(5) M&A advisory agreement

II. Transaction period

(6) Enterprise valuation
(7) Business documentation
(8) Research of potential investors -> Long list
(9) Short list -> Investor approach
(10) Confidential agreement
(11) Letter of interest
(12) Discussion process
(13) Letter of intent / Heads of agreement (Purchase price, structure of payment,
conditions, management contract, exclusivity agreement, time frame and next
steps)
(14) Due diligence review
(15) Discussion of purchase price and conditions
(16) Acquisition agreement / contracts
(17) Signing
(18) Closing

III. Integration period

(19) Integration process
(20) Value management

Consolidated figures

Budgeted financial statement

Management ratios are ROCE, WACC and CVA

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Prof. Dr. Markus W. Exler

• Managing Partner, M.A.C. Mergers & Acquisitions-

Consulting GmbH, Vienna / Austria, www.dr-exler.de;
• Chairman of the Supervisory Board, Kroha GmbH, Mies-
bach / Germany, www.kroha.de;
• Director of Studies International Finance Management &
Controlling, University of Applied Sciences Kufstein / Aus-
tria, www.fh-kufstein.ac.at;
• Fields of activities: Accounting, Financial Reporting, Value
Management and Mergers & Acquisitions

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