M&A: CONCEPTS AND THEORIES

NEW YORK INSTITUTE OF FINANCE

Valuation part 2

Now acquisitions, comparable acquisitions very similar to public companies. You're

just picking out the deals that were in the same industry. Hopefully the same size, if
you can find them it's a matter of public record what those multiples were. It’s got
that. It's solid. There's no subjectivity. And the information is not as good as you'll
see in the next slide.

We don't have, where there's public and private acquisitions, for the private deals,
you don't have the level of information that you'd like. You might only have
revenues that might be priced to revenues instead of priced to net income. And
usually in an analysis of this sort there might be 10 public comparables to your
business.

But there might only be three or four M&A deals. So the sample size is much
smaller, and the smaller the size, the less accurate the valuation. Just like public
companies, the acquisition deals look backward. So you're doing a multiple of
backward earnings or backward sales, not future that's a key weakness of the
public companies and the M&A approach.

Now leveraged buyout, we said earlier about 15% of deals are leveraged buyouts
today. I mean, it changes. So what are the positive aspects of leveraged buyouts?
Well, all the assumptions that go into pricing a deal can be verified with market
participant. But how much debt will the banks put on a leveraged buyout? How
much will junk bond lenders put up? How much will equity investors be willing to
invest? What type of debt service coverage is required and so on?

All of that can be verified, so there's not much subjectivity there. So that's helpful,
so you know what are the parameters in any given year. Furthermore, the LBO
method is-- it's in legal documents as an accepted methodology along all the other
three. Now the weakness are that most companies that are required do not fit the
LBO criteria, so you can't use a methodology.

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To be at LBO, the company has to be reasonably low tech. It has to be reasonably
non-cyclical. It has to have little debt on its balance sheet. It has to have a pretty
steady income stream. And if you take all those characteristics together, only about
20% of the pool qualifies. So that leaves out most of your deal doesn't it? It leaves
out 80%.

Also the LBO price doesn't include any synergies. Because when an LBO firm-- as
we talked about earlier-- when an LBO firm takes over a company, most of the time
is not combining it with another company. It's buying it on a standalone basis, so
there's no synergies. You can't fire a whole lot of people so that is often considered
a bottom price.

Lastly, if you're working in the emerging markets like I did-- I worked in the
emerging markets for like 10 years-- you can't do leveraged buyouts, because of the
financing issues we talked about a couple of hours ago. So any emerging market
deal you really can apply this technique to. So any questions on the pluses and
minuses for these four techniques.

So which one is the most commonly used? They all have their pros and cons, it's like
stuff like the discounted cash flows, there won't be the--

No. No, the most popular is the comparable acquisitions, and then the second one
will be the comparable public company, so.

The buyout's usually done by the government, right?

No the buyout technique, we have in this country 1,000 buyout funds. So all these
buyout funds are competing for transactions. And in Europe you might have 700 or
800 buyout funds, so there's plenty of examples of buyout funds doing deals. I hear
the governments don't really do transactions like that.

So, what's the difference between a buyout and a bailout.

Bailout? Oh, well, a buyout would be private sector. A bailout would be when some
huge bank that the government says cannot go bankrupt, because it'll cause a
disruption in the financial system, then the government steps in and pays all of its
debts and takes it over. That happened in 2008 where the US government--

The most successful story was an insurance company.

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Oh, yeah. That's still being litigated by the way, AIG.

Really?

Yeah, the owner, Maurice Greenberg, claims the government cheated him and other
stockholders. And he has a point, because the bailout terms AIG got were much
more severe than Goldman Sachs got or Citibank. Now having followed the
situation closely and having worked in Washington for like 15 years, it may have
been the Goldman and Citibank had much better lobbyists than AIG or just were
tighter.

Because in this country, like Goldman Sachs executives often are in the treasury or
the White House, same with Citibank. So if you look at who are the top people in
the Treasury in the White House in the financial capacity, I'd say those two firms
have a disproportionate representation. JP Morgan as well.

So to answer your question, that was the next slide. Here's the emphasis. If you had
a given deal and you were waiting, which are the most important techniques? This
would be my waiting process having done dozens of transactions. This would be the
most emphasised.

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