stages of development - International Business Growth Radio Network

M&A – Make sure the price is right - Jeremy Gray

14/2/2021

Jeremy Gray – 7 of Season 4 Target Selection Mergers and Acquisitions

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Remember Target Selection is Key. Fit, Culture and Business Alignment and competitive environment.

Some past lessons include:

Home Depot entry into China – failed to recognize that DIY is not popular in China as DIY is seen as a sign of poverty
UK based Hailo quit the US market as it saw a price war with Uber and Lyft did not make sense.

Valuation paradox:

If you are buying an ongoing business you will have to pay more to the seller than they can make by running the business themselves. That means there must be synergies in the deal that are real and can be delivered.

Two common synergies are: Revenue Synergies and Cost Synergies.

Exceptions:

Owner is retiring.
Owner has more profitable options
Corporate orphans
Owner does not have the financial resources to move to next stage
Where you have strong leverage

Preparing for valuation:
Preliminary questions – Have a checklist of questions ready. Ask for everything you can think of, but take what you can get.

P&L, Balance Sheets are key, cash flow is extremely helpful. Audited accounts, publicly filed accounts for tax purposes, management books.

Two sets of books problem. Insist on reconciliation.

Forecasts – do they make sense based on past history? The hockey stick forecast. Review Revenues, Gross Margins and Expenses.

If possible this is the time to start managing the sellers expectations. Sellers often have Grossly Inflated Valuation Expectations (GIVE). Ask if the seller has a price in mind.

Valuation Methods:
3 common methods for valuing ongoing businesses are:

Comparable company analysis (also called “trading multiples” or “peer group analysis” or “equity comps” or “public market multiples”) is a relative valuation method in which you compare the current value of a business to other similar businesses by looking at trading multiples like P/E, EV/EBITDA, or other ratios. Multiples of EBITDA are the most common valuation method.

Precedent transactions analysis is another form of relative valuation where you compare the company in question to other businesses that have recently been sold or acquired in the same industry. These transaction values include the take-over premium included in the price for which they were acquired.

Discounted Cash Flow (DCF) analysis is an intrinsic value approach where an analyst forecasts the business’ free cash flow into the future and discounts it back to today at the firm’s Weighted Average Cost of Capital (WACC).

If multiple valuation methods are used they can be plotted on a simple chart – sometimes called a football field chart.

Other methods include:

Cost to build (Include time value)
Ability to pay
Liquidation or break up value.

Initial offer to seller to be in the form of a non-binding letter of intent:
This should included:

Scope of the acquisition and terms:

Stock or acquisition
Price (Range or single number)
Cash free debt free
Normalized working capital
Holdbacks

Conditions of offer:

Subject to Due Diligence
Operates in a normal manner.
Guarantees, Reps Warranties Normal closing adjustments etc
Subject to financing

Exclusivity – a non shop agreement – usually around six months.

Do you own internal DD first before engaging experts:

Why send in your own team. Firstly if there is something seriously wrong with the target companies accounts it is very likely that your financial team will find it, thus enabling you to pull out of the deal without spending a lot in professional fees.
Internal DD is no substitute for a thorough professional review.

Hire the experts: