Why is goodwill created in an acquisition?
When an acquiror pays more than the book value for a company, the excess amount over the book value is called goodwill. The acquiror can finance the deal through cash, debt, or equity. If the company finances the deal through cash, then cash will go down on the balance sheet. Assets will go up by […]
A company with a higher P/E acquires a company with a lower P/E in an all-stock deal. Is this accretive or dilutive?
This is accretive. A higher P/E means that you are paying more for every dollar of earnings, since the numerator is stock price and the denominator is earnings. If we take the reciprocal of P/E, which is earnings per share / stock price, then a higher P/E results in a lower return on equity. A […]
Why would an acquirer not use cash?
The acquirer may not have enough cash, or they have set aside cash on the balance sheet for another purpose such as: Perform share buyback Pay out dividends Acquire another company
What is the cost of cash in an M&A transaction?
The cost of cash is the opportunity cost of the cash, which is the after-tax interest rate that could have been earned if the cash was left in the bank or invested into marketable securities (also known as cash equivalents). Marketable securities are low risk and highly liquid, and include:
When would you use debt to buy a company?
You would use debt: if you don’t have enough free cash on the balance sheet, have the debt capacity, and would prefer a cheaper source of financing than equity. You may also use debt if you can get favorable terms (such as a low interest rate) on the credit agreement because the target has recurring […]
When would you use stock to buy a company?
You would use stock to buy a company if your stock price is trading quite high relative to the target. This could be because of temporary cyclical trends or circumstances. You would also use stock if there is no further cash or debt capacity and equity is the only option. Finally, you would lean towards […]
What are the different ways to finance an M&A transaction? Rank these methods from cheapest to most expensive.
Cash on balance sheet: The acquiror can buy the target with existing cash it has on its balance sheet. There is no need to access capital markets for financing, so the only cost is the opportunity cost of the cash which is the lost interest income the company would have earned had they kept the […]
10x EV/EBITDA, 5x EV/Revenue, 20x P/E, what is the net income margin? Assume no debt, cash, minority interest, or preferred equity.
Price / earnings per share is equivalent to equity value / net income, as it is the same concept as on a per share basis. If there is no debt, cash, minority interest, or preferred equity, then equity value is equal to enterprise value. We can substitute enterprise value for equity value, so that we […]
Why would you not do an M&A deal if it’s accretive?
Even if an M&A deal could appear accretive, the synergies projected in the model could be too speculative, or there could be too much volatility or risk to the business. There may be other strategic risks that won’t be captured by an Excel model. For example, there could be the risk of reputational damage if […]
Walk me through an M&A deal on the sell-side.
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