M&A Valuation

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email: david@myaacg.com
 
David Hahn, CVA, ASA, MAFF, CM&AA, CCIM, MBA

Mergers & Acquisitions Valuation and Advisory

Our firm is a mergers & acquisitions (M&A) advisory company geared specifically for owners of medium-sized and middle-market businesses providing valuations and advisory services.

Before, during, or after the deal has been struck, our professionals provide independent valuation and financial consulting services to ensure that your best interests are served. As a professionally credentialed as a Certified Merger & Acquisition Advisor (CM&AA), we can provide the well-rounded advisory services.

Strategic planning in connection with a merger, an acquisition, or an exit from a business calls for an independent assessment of value. With clear understanding and informed expectations, you will be better armed to make the correct decisions to maximize shareholder value.

Negotiating a merger, acquisition, or business sale often involves differences in opinion of value. An experienced valuation professional can assist you in explaining the valuation process and how it should be applied to the business at hand. With both parties having a common understanding and appreciation for the value of the business, a smoother transaction is assured.

Shareholders, directors, and fiduciaries often require an independent opinion to verify that the deal they have struck is fair from a financial point of view. Our experienced valuation professionals can provide such an opinion and the confidence you have made the correct decisions.

• Mergers, Acquisitions, and Business Sales
• Fairness Opinions
• Strategic Planning
• Purchase Price Allocation
• Spin-Offs
• Covenants Not to Compete
• Earn-Outs
• Tender Offers

Distressed Transactions
We provides distressed companies with a cross-section of financial advisory services that may include the following:

  • Out-of-court workouts
  • Section 363 sales
  • Alternative to the Bankruptcy Chapter 7 Liquidation - Assignment to the Benefit of Creditors ("ABC")
  • Plan of re-organization
  • Litigation support and expert testimony

Disclaimer: We do not intend to give legal or tax advise. We are not attorneys, lawyers or legal advisors. You should check with your attorney regarding the distressed property remediation process and any other matters before proceeding with any course of action.

M&A Background

M&A Value is different from the Fair Market Value or Formal Value. M&A Value's characteristics are:

  • Real transaction/ dynamic

  • Buyer and seller have different knowledge and negotiating skills

  • Parties imprudent or compelled to act

  • Non-cash consideration

  • Ultimately beauty in eye of beholder (specific to investor - investment value)

Types of M&A Valuations are:

  • Preliminary Valuation: initial frame of reference for client and intermediary, can also be used for strategic planning and reengineering

  • Buyers Synergistic Value: private & subjective

  • Dynamic Valuation: actual deals

  • Formal Valuation: only reference

The Sales Side Preparing the Business for Sale (Exit Planning):

  • Three years planning

  • Financial reporting clean up, get GAAP accounting, preferably an audit

  • Shoring up management and operations

  • Gather and follow market place and industry research and intelligence

  • Remove and liquidate non-operating assets

  • Advance tax planning, especially entity selection

  • Raise the profile of the business

Types of Synergies to the Buy Side:

  • Operational

- Revenue Enhancement - Expanded sales channels, joint market opportunities, etc.

- Expense Reduction - Duplicative technology, facilities, and purchasing gains

  • Financial

- Better Access to Capital or lower cost of Capital

  • Access to new markets

  • Growth in market share

  • Access to new products

  • Access to talent

  • Enhanced reputation

  • Reduction in operating expenses

  • Access to distribution channels

  • Access to new technologies

  • Reduction in number of competitors

  • Access to new brands

M&A Process
This outline describes the M&A package that our firm would normally prepare when retained to find targeted acquisitions for a client. If we are retained by a seller, then this outline describes the information on our client that we would present to potential buyers. Any potential buyer will have the standard set of key questions that must be satisfactorily answered before the buyer will agree to the acquisition.

1. Is the target company gaining, holding, or losing financial ground?

2. What is the market value of the target?

3. How much should the buyer pay?

4. What will the purchase ultimately cost?

5. What is the best way to structure payment?

6. What is the most appropriate amount and form of financing?

7. How will the company perform in the future?

8. What is the projected ROI (return on investment) for the buyer?

To assist the buyer, we will develop a sequential, task-specific presentation that answers these questions. The outline for our presentation should follow the six main stages of an acquisition: financial analysis, valuation, purchase price negotiation, deal structuring, financing, and closing.

First, we must construct, with the client’s assistance, a database of financial information about the target company. With this database, we can guide the prospective buyer through analyzing the company's financial position, projecting its future earnings, and estimating its market value. The estimated market value provides a benchmark for determining an appropriate purchase price and other key terms of the deal. We then present alternative financing strategies using a variety of common acquisition methods.

Once we have some initial assumptions and specific terms from the prospective buyer, we should prepare a second-round presentation tailored to that buyer. This second presentation would include the buyer’s proposed purchase price, structure, and funding terms. The buyer will also specify assumptions about the target's future earnings using the projected income statements, balance sheets, statements of cash flows we provide him. The buyer will be interested in whether his acquisition of the target meets its internal threshold ROI for new investments. Graphic illustrations should be utilized throughout the presentation to display the financial information.

The research required to prepare this initial and follow-up presentation would give us the necessary background to negotiate the acquisition from a position of strength. As the negotiations unfold, we should be prepared to show the impact of changes in terms of the purchase contract to the buyer.

Section 1: Historical Performance
Ideally, we would track 1 - 10 years of the target’s financial performance. This track record gives potential buyers a realistic look at the trends and underlying financials of the target. This section will answer such questions as

  • Is the target gaining, holding or losing financial ground?

  • Is working capital increasing or decreasing?

  • Is the target sustaining itself on operating cash flow or relying on outside financing?

  • What are the trends for return on investment, assets, and equity?

  • How is the target performing compared to other companies in the industry?

We will need to generate Statements of Cash Flows, Sources and Uses of Funds Statements, and Statements of Retained Earnings. Business ratios and common size financial statements must also be calculated.

Section 2: Forecasted Performance
This section presents the buyer with a step-by-step guide through the target’s projected financial statement, which is supported by our financial database. This section must provide realistic insight into the target’s growth potential and answer such questions as

  • What is the future earnings capacity of the company?

  • Does the target have sufficient working capital to sustain growth?

  • Are asset levels adequate to support future growth?

  • If not, what is a reasonable estimate of the amount of assets to be purchased?
    Is there enough cash to purchase or put a down payment on needed assets?

The buyer will want to see how each line item in the Income Statement and Balance Sheet has fed into our (accurate) forecast of future performance. The result is a set of fully linked projected financial statements, including Income Statements, Balance Sheets, Statement of Retained Earnings, Statement of Cash Flows and Sources and Uses of Funds. This detailed projection serves as the foundation for establishing market value and the amount that the buyer is willing to offer for the target.

Section 3: Market Valuation
This section will present an industry-accepted valuation model using several financial approaches, e.g., market value, accounting value of assets and liabilities, and earnings growth and income. After viewing this section, the buyer should have a realistic value for the target and price range to offer us. This section will address question like,

  • What might a ready, willing and able buyer pay?

  • How does the elimination of discretionary and non-operating expenses affect overall value? Does the value of the target reside in its earnings, asset base or the market for similar companies?

  • How does historic performance affect future earnings expectations?

The buyer may derive a valuation based on different measures of earnings including net cash flow, net income, EBT, EBIT and EBITDA. We should be able to demonstrate the value of the target using any of these measures. After viewing the individual valuation methods, the buyer can select the most appropriate single approach or weight the approaches to arrive at an average. Estimated market value gives the buyer a reference point for determining how much to offer.

Section 4: Deal Pricing & Structuring
The buyer will no doubt want to determine the price to offer and how to structure its offer outside our presence. Nevertheless, we should provide the buyer with a sample step-by-step procedure to determine its offer price, so that we will be hinting to the buyer what price we expect to hear back from it. Any departure from that price would give us a psychological advantage: the buyer would feel it had to justify any lower offer. To structure the deal, this section should estimate the transaction costs and determining the necessary cash to close the deal.

  • What is the most the buyer can pay and still achieve its required ROI?

  • How much of the purchase price will be allocated to tangible assets, covenant-not-to-compete, or stock?

  • How much of the purchase price will be allocated toward management or employment agreements?

  • How much cash will the sellers receive at closing and what portion will be deferred?

  • What is the anticipated value of any contingency payments?

To determine the optimal way of structuring and financing the transaction, the buyer will need to be able to "lay in" deal terms and financing options and analyze the bottom line effects of the terms.

Section 5: Funding
Although obtaining funding for the acquisition is technically the buyer’s responsibility, we can increase our chances of completing the sale if we eliminate the guess work from financing the acquisition. Essentially, we need to show the buyer a best funding plan that creatively utilizes all funding sources and financial instruments available to the buyer.

  • How much secured debt can the target borrow against assets?

  • Does the cash flow support the acquisition financing?

  • Is acquisition financing placing too great a burden on working capital?

  • Will the target be solvent after acquisition financing?

Whether this deal requires a simple bank loan or multiple levels of complex funding, we can tailor a sophisticated financing plan that fits the target's asset base and cash flow. Financing vehicles include: short-term notes; inventory and receivable revolvers; term debt with extended payments options such as interest and principal deferrals, amortized or level principal repayments, equity-kickers (warrants and options) and convertible debt; and common, preferred, and convertible-preferred equity.

Section 6: Forecast Financial Performance After the Transaction Is Complete
Our work is not complete until we present the buyer with projections of company performance - both pre- and post-sale. This section will reassure the prospective buyer of the bottom line impact of its deal structure and financing scenario.

  • If labor and/or materials increase by a given percentage, how will it impact gross margin and operating profit?

  • How will fixed asset purchases and disposals affect the target's balance sheet?

  • Do opportunities exist to maximize working capital by changing credit and collection policies or inventory management?

  • Are there cash reserves and additional credit capacity to handle unforeseen changes in the business cycle and climate?

  • What is the target's dividend generating capacity?

To forecast the target's performance after the sale, the purchase price and structure, funding assumptions, and planned policy and operational changes must be pulled together in detailed, cross-referenced Income Statements, Balance Sheets, Statements of Retained Earnings, and Statements of Cash Flows and Sources and Uses of Funds. A sophisticated buyer offering as much as $25 million for the target will want to see the bottom-line impact of its operating assumptions and fiscal policy on a line-by-line basis. The result should be a very clear, well-documented picture of the anticipated performance and cash flows resulting from the target acquisition.

Section 7: Return On Investment
This section will answer such questions as

  • Are critical ratios within acceptable levels?

  • Are there income statement or balance sheet line-items that require increasing levels of financial resources?

  • Can the target satisfy the financial covenants imposed by a lender?

  • What might the target be worth in future years?

  • If investors exit in a given year, what is their anticipated ROI on a fully diluted basis?

A thorough internal rate of return analysis will let the buyer structure equity financing for different investment partners based on the initial investment, exit period, projected value, and percentage ownership interest. In each scenario, the buyer will be able to calculate its anticipated ROI on a fully diluted basis.

Having completed the background research and financial analysis to prepare these presentations, we will be able to show strength during pressure-filled negotiations. We will also be able to handle any surprises that arise during the due diligence phase of the acquisition, or unexpected changes in the financing terms.

ADVANCED PRESENTATION
In more sophisticated transactions, we might be requested to present our analysis using

  • a Z-score model to measure the probability of the target becoming insolvent within the next 12 months. This popular model helps assess viability, both before and after the acquisition.

  • a sustainable growth model measuring the maximum growth rate of sales that is sustainable without depleting financial resources. This analysis helps determine whether revenue growth assumptions are in-line with profit margins, dividend payout, asset turnover, and financial leverage assumptions –- both before and after the transaction.

  • an enhanced build-up method of developing discount rates in business valuations, particularly for small valuations or when no comparable companies can be identified.

  • a Capital Asset Pricing Model (CAPM) method of determining discount rates. The CAPM is generally preferred over the build-up method because it utilizes beta factors from comparable companies.

  • a debt-free discount rate, a special calculation that adds the weighted average cost of debt and the weighted average cost of equity, used to discount projected EBIT, EBITDA, or Free Cash Flow in the discounted future earnings valuation method.

  • additional valuation methods including Price to Gross Cash Flow, Price to Operating Cash Flow, Price to Dividends, Price to Net Asset Value, Price to Total Assets and Price to Stockholders' Equity.

  • a cash maintenance revolver routine that maintains a target cash level in the projected balance sheets, thus eliminating wildly fluctuating projected cash balances by borrowing from short-term financing instruments when required, paying them down with excess cash, and placing further cash reserves into interest-bearing cash equivalents.

  • preferred stock valuation, if any, based on the market yield of the preferred stock of comparable companies.

  • minority interest valuation, to determine the value and structure the acquisition of a minority ownership interest in a company. This feature will only occur if one of the current shareholders of the target chooses not to sell its shares to the buyer.

We will work with you at each stage in the M&A process to insure that you have. . .

  • Identified acquisition candidates, evaluated economic benefits, and established values.
  • Realistically assessed options, evaluated your company's capabilities and thoroughly the analyzed resources required to succeed.
  • Developed a workable plan and are prepared to mobilize the internal and external resources needed to identify targets, conduct due diligence, arrange financing and integrate prospective candidates.
  • Prepared for the post acquisition and merger integration effort, which is critical to insure that your transaction is successful.
Our primary objective is to maximize value for our clients. We can accomplish that objective as a result of our extensive experience structuring and executing successful corporate finance transactions, balanced with a clear understanding of our client's industry, business and personal needs.

Seller Representation
In general the following components make up the scope of our seller representation:
Preparation - Understanding the key value drivers and intangible assets of your business is critical for a successful outcome. Effectively conveying these strengths and positive attributes to prospective buyers/investors is done in part through our preparation of professional and comprehensive documents, including a Confidential Information Memorandum and a series of related materials.

Strategic Marketing - Determining the best acquirer or for your business is not an easy task, but a vital one at which we excel. In addition to the shared knowledge and extensive personal buyer contacts among our seasoned professional staff, we also subscribe to numerous industry resources and databases to be sure that no stone is left unturned in our quest to find you the right buyer.

Negotiating & Deal Structuring - Creating a competitive environment among buyers is paramount to negotiating the best terms and conditions of a business sale. We know how to manage this process to your advantage and with our many years of deal making experience, we have the knowledge and confidence to go head-to-head with the savviest of buyers. We work in concert with tax and legal advisors to organize the many variables and complexities involved in any transaction, in order to negotiate a comprehensive and optimal final deal.
Managing & Closing the Transaction - After finalizing a carefully crafted Letter of Intent with the selected buyer, we will guide you through the due diligence process and help you avoid the pitfalls that can easily destroy a deal. We will also set appropriate deadlines to keep the various parties on track towards completion of satisfactory purchase documents and of course the closing of your transaction.

Buyer Representation
We regularly represent corporate, private and institutional investors in acquiring businesses and selected assets. These assignments include acquisition searches or client defined specific projects, as well as management buyouts.
While we provide a wide variety of services to our buyer clients, the activities fall into five primary categories
  • Assist in developing acquisition criteria.
  • Identify the primary and secondary targets.
  • Initiate contact with the targets using our proprietary process.
  • Assist as requested in negotiating the price, terms and conditions of the transaction.
  • Raise acquisition financing, if required.
For Management Buyout clients, our services usually are much broader. These often include the following:
  • Assist in formulating the buyout plan.
  • Advise on alternative options should it be necessary.
  • Present the buyout plan to the various stake holders, i.e. the Board of Directors, shareholders, lenders, landlords, suppliers, etc.
  • Assist as requested in negotiating the price, terms and conditions of the transaction.
  • Raise acquisition financing, if required.
  • Orchestrate the process through to the close.
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