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Walk me through a basic merger model.
A merger model is used to analyze the financial profiles of 2 companies, the purchase price, how the purchase is made, and determine if the buyers EPS increases.
First, you make assumptions based on how the deal was done. Find a valuation and the number of shares outstanding from each company.
From there create two Income Statements; one for each company and combine Revenue, Operating Expenses, and adjust for Foregone Interest on Cash and Interest Paid on Debt in the Combined Pre-Tax Income Line.
Apply the Buyers rate, and then divide by the new share count to find EPS.
What's the difference between a merger and acquisition?
A merger is when the two companies are comparable in size. An acquisition is when one is larger than the other.
Why would a company want to acquire another company?
Synergies (both cost and revenue), new market, market share, diversification, pressure from shareholders, good valuation, cash rich, etc
Why would an acquisition be dilutive?
An acquisition would be dilutive if the EPS adjusted negatively after the purchase. The benefit of the acquired's net income did not outweight the cost of foregone interest on cash, the cost of stock, or the interest payments on the debt.
Is there a rule of thumb for calculating whether an acquisition will be accretive or dilutive?
Make certain assumptions and look to calculate the EPS through the Merger Model.
A company with a higher P/E acquires one with a lower P/E. Is this accretive or dilutive?
If it is an all stock deal, yes. They are buying earnings for a lower premium then they currently trade at.
What is the rule of thumb for assessing whether an M&A deal will be accretive or dilutive?
If you are paying more for earnings than the market values your own earnings at, it will likely be dilutive.
If you are paying less for earnings than the market values your own earnings at, it will likely be accretive.
What are the complete effects of an acquisition?
Foregone Interest on Cash, Additional Interest on Debt, Additional Shares Outstanding, Combined Financial Statements, Creation of Goodwill & Other Intangibles
If a company were capable of paying 100% in cash for another company, why would it choose not to do so?
It believes it can get better value for its cash, it wants to keep additional cash on hand as safety, it's stock is undervalued, debt is very cheap
Why would a strategic acquirer typically be willing to pay more for a company than a private equity firm would?
A strategic acquirer is buying for synergies, diversification, market dominance, competitive advantage, etc. They can couple the two companies together.
A private equity firm, unless with a complementary portfolio, would not be able to recognize those synergies.
Why do Goodwill & Other Intangibles get created in an acquisition?
They represent the amount above fair market value paid.
They are an accounting plug.
What is the difference between Goodwill and Other Intangible Assets?
Goodwill stays the same and is not amortized. It changes only if there is goodwill impairment.
Other intangibles are amortized over several years.
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