MSc FM, MAPE, Class #1, May 26, 2020

Class Notes

Menu of the Day

1. Course parameters
2. The players
3. QOTD

1. Course parameters

M&A = change in ownership & governance

of a whole company or an individual business
in an M&A transaction.

Why ownership & change in ownership matter:

Purpose & Strategy Performance:

Ownership & Management - Financial
governance Business culture - Non-financial

Key management issues in M&A:

- Why? Strategic justification

- How much? Valuation; pricing; financing; risk

- How? Process

- Whom? Impact: stakeholder & business

Course readings: Books, articles, company documents, others

Course components: Class sessions with QOTD & Class Notes

Team assignment
PwC workshop in late Summer/early Autumn
Final exam

2. The players
Non-financial stakeholders & their concerns and interests:
- Internal:
o Executives post-deal position, power, & remuneration
o Board of directors idem
o Employees employment; salary; perks; career opportunities

- External:
o Customers pricing & other conditions
o Suppliers preferred supplier status; pricing & conditions
o Competitors intensity of competition
o Government taxes; national security;
employment; consumer welfare

Financial stakeholders & their concerns:

- Shareholders value, dividends, power, risk
- Lenders risk, seniority, collateral

Buyer categories:
- Conglomerates & other corporates
- Financial buyers
- Current management (MBO) or new management (MBI)
- Government: nationalization

Sellers:
- Divestitures by large companies
- Public shareholders
- Exit by private equity & venture capital
- Owner-manager
- Family
- Government: privatization

Advisors:
- Financial: target search; negotiation; arranging of financing; fairness opinion
- Legal: legal structuring; legal due diligence; regulatory approval
- Financial due diligence provider
- Commercial due diligence provider
- Others

Buyer & target position in the sector value chain:

- Horizontal deals

- Vertical deals
 Strategic buyer Financial buyer

Who Corporate PE fund managed by PE firm

Why buy Strengthen, exploit, & extend High financial returns

core business

Source of complementarities Better governance; operational

value creation leading to synergies improvements; financial engineering;
realized in post-merger M&A market timing
integration (PMI)

Ideal target Complementary business (1) Business with improvement potential

with lucrative exit opportunities
(2) High performer that can serve as
platform for buy-and-build strategy

Post-deal role for Depends Depends

target management

Financial objective Shareholder value creation High IRR; High MOIC

thanks to positive-NPV deal

Length of ownership permanent around 5 years

Payment to target Cash or equity Cash

shareholders

Source of funding cash; debt; equity PE fund; debt

3. Questions of the Day

Introduction to M&A

Readings:
- Cornerstones: Chapters 5, 12 (pp. 153-158 & 162-167), 13 (pp. 174-180)
- Investment Banking: Chapter 7 (pp. 355-361)

a. Jargon in these readings, their definitions, and their M&A context:

???

b. The ownership of a business is likely to change over time because…

…its needs in terms of complementary resources & capabilities, governance, and other sources
of support change over time: see sub c below.
c. Why buy?

Best ownership & their sources of M&A value creation:

- Unique links with other businesses
- Distinctive skills
- Better insights & foresight
- Better governance
- Distinctive access to:
o talent
o capital
o clients
o suppliers
o government support

d.
Synergies = additional business cash flows compared to the stand alone companies

Synergy value = increase in business value as a result of synergies

Synergy categories:
- Based on impact on financial statements:
o Cost synergies
o Revenue synergies
o Asset synergies

- By functional area:
o Marketing; operations; etc.

Value creation in M&A:

- Synergy value

- Impact of the M&A deal on shareholder value:

o Buyer: NPV of the deal
o Target: takeover premium

e. Why buy?

M&A strategies & mechanism of value creation:

From Cornerstones Chapter 13:

(1) Improve the target company performance stand-alone improvement

(2) Consolidate to remove excess capacity from an industry cost & asset synergies

(3) Accelerate market access for target’s and/or buyer’s products revenue synergies
(4) Acquire skills or technologies faster or at lower costs faster time-to-market
than they can be built exploit first-mover advantage

(5) Pick winners early and help them develop their businesses revenue synergies

(6) Rollup strategy cost, revenue, & asset synergies

(7) Consolidate to improve competitor behavior higher prices & profit margins

(8) Enter into a transformational merger new business model

(9) Buy cheap raises NPV

These 9 are NOT mutually exclusive: the best deals have multiple sources of value creation.

Not mentioned by McKinsey, but relevant in practice as well:

(10) Economies of scale (& scope): cost savings

(11) Vertical integration to:

- move up the value chain
- secure access to critical scarce resource

(12) Consolidate to hurt customers and/or suppliers strengthening bargaining power

f. Efficiency of the M&A market =

Allocation of businesses to best owners, in terms of their ability to enhance business value and
create synergy value.

Corporate governance
related party transaction = M&A deal between 2 companies who share a controlling
shareholder.

Example

Minority shareholders Mr BIG Minority shareholders

20% 80% 40% 60%

Company A Company B

Q: How can Mr BIG use an M&A transaction between A & B to enrich himself?
A:

Ownership, management practices, & company performance

Readings
Bloom, N., Sadun, R., & Van Reenen, J. (2015). Do Private Equity Owned Firms Have Better
Management Practices? American Economic Review, 105(5), 442-446.

a.&b. Categories of ownership & the mechanisms affecting quality of management practices?

Listed with dispersed owners:

PE owned:

Family-owned, external CEO:

Family-owned, family-CEO:

Government owned:

c. Identify the key regressions, check the variables that are included, and the main findings.