Table of Contents

Preface … xi

Dedication and Acknowledgments … xv

PART I Introduction … 1

Chapter 1 Winning through Mergers and Acquisitions … 3

Critical Values Shareholders Overlook … 5

Stand-Alone Fair Market Value … 6

Investment Value to Strategic Buyers … 8

Win–Win Benefits of Merger and Acquisition … 10

Computation of Cavendish’s Stand-Alone, Fair Market Value … 11

Investment Value to Strategic Buyer … 12

PART II Building Value … 15

Chapter 2 Building Value and Measuring Return on Investment in a Private Company … 17

Public Company Value Creation Model … 17

Computing Private Company Value Creation and ROI … 19

Analyzing Value Creation Strategies … 35

Chapter 3 Market and Competitive Analysis … 41

Linking Strategic Planning to Building Value … 43

Assessing Specific Company Risk … 48

Competitive Factors Frequently Encountered in Nonpublic Entities … 53

Financial Analysis … 54

Conclusion … 59

Chapter 4 Merger and Acquisition Market and Planning Process … 61

Common Seller and Buyer Motivations … 64

Why Mergers and Acquisitions Fail … 65

Sales Strategy and Process … 67

Acquisition Strategy and Process … 78

Due Diligence Preparation … 86

Chapter 5 Measuring Synergies … 91

Synergy Measurement Process … 92

Key Variables in Assessing Synergies … 95

Synergy and Advance Planning … 96

PART III Measuring Value … 99

Chapter 6 Valuation Approaches and Fundamentals … 101

Business Valuation Approaches … 101

Using the Invested Capital Model to Define the Investment Being Appraised … 103

Why Net Cash Flow Measures Value Most Accurately … 104

Frequent Need to Negotiate from Earnings Measures … 106

Financial Statement Adjustments … 109

Managing Investment Risk in Merger and Acquisition … 112

Conclusion … 117

Chapter 7 Income Approach: Using Expected Future Returns to Establish Value … 119

Why Values for Merger and Acquisition Should Be Driven by the Income Approach … 119

Two Methods within the Income Approach … 121

Three-Stage DCF Model … 128

Establishing Defendable Long-Term Growth Rates and Terminal Values … 131

DCF Challenges and Applications … 133

Chapter 8 Cost of Capital Essentials … 135

Cost of Debt Capital … 136

Cost of Preferred Stock … 138

Cost of Common Stock … 138

Fundamentals and Limitations of the Capital Asset Pricing Model … 139

Modified Capital Asset Pricing Model … 142

Build-Up Model … 143

Summary of Rate of Return Data … 151

Private Cost of Capital … 153

International Cost of Capital … 156

How to Develop an Equity Cost for a Target Company … 157

Reconciling Discount Rates and P/E Multiples … 159

Conclusion … 161

Appendix 8A Using Specific Company Risk Strategically … 162

Chapter 9 Weighted Average Cost of Capital … 169

Iterative Weighted Average Cost of Capital Process … 170

Shortcut Weighted Average Cost of Capital Formula … 174

Common Errors in Computing Cost of Capital … 176

Chapter 10 Market Approach: Using Guideline Public Companies and M&A Transactions … 181

Transaction Multiple Method … 182

Guideline Public Company Method … 186

Selection of Valuation Multiples … 190

Commonly Used Market Multiples … 191

Chapter 11 Asset Approach … 199

Book Value versus Market Value … 200

Premises of Value … 201

Use of the Asset Approach to Value Noncontrolling Interests … 201

Adjusted Book Value Method … 202

Specific Steps in Computing Adjusted Book Value … 207

Chapter 12 Adjusting Value through Premiums and Discounts … 209

Applicability of Premiums and Discounts … 210

Application and Derivation of Premiums and Discounts … 211

Apply Discretion in the Size of the Adjustment … 213

Control versus Lack of Control in Income-Driven Methods … 215

Fair Market Value versus Investment Value … 215

Chapter 13 Reconciling Initial Value Estimates and Determining Value Conclusion … 217

Essential Need for Broad Perspective … 217

Income Approach Review … 220

Market Approach Review … 225

Asset Approach Review … 226

Value Reconciliation and Conclusion … 228

Checks to Value … 231

Candidly Assess Valuation Capabilities … 232

Valuation Scenarios – Platform for M&A … 232

Appendix 13A Disciplined and Thorough Valuation Analysis Key to Avoiding Failed M&A Deals … 235

Analysis of a Hypothetical Synergistic Deal … 235

Establishing the Value of an Acquisition Target … 236

Establishing Value for the Acquirer … 238

Considerations of Other Impacts on Value … 239

PART IV Specialty Issues … 241

Chapter 14 Exit Planning … 243

Why Is Exit Planning So Difficult? … 244

What Makes Planning for Your Private Company Investment Unique? … 247

Why Should Exit Planning for Your Private Company Begin Now? … 249

Exit Planning Process … 250

Step 1: Setting Exit Goals … 252

Step 2: Owner Readiness … 254

Step 3: Type of Exiting Owner … 256

Step 4: Exit Options … 258

Step 5: Range of Values … 263

Step 6: Execution of Exit Plan … 265

Chapter 15 Art of the Deal … 269

Unique Negotiation Challenges … 269

Deal Structure: Stock versus Assets … 271

Asset Transaction … 276

Terms of Sale: Cash versus Stock … 279

Personal Goodwill … 282

Bridging the Gap … 283

See the Deal from the Other Side … 286

Chapter 16 Fairness Opinions … 289

Why Are Fairness Opinions Obtained? … 291

The Use of Fairness Opinions by Private Companies … 294

Parties Who Prepare Fairness Opinions … 295

Components of a Fairness Opinion … 297

What Fairness Opinions Are Not … 301

Conclusion … 302

Appendix 16A Sample Fairness Opinion Letter … 303

Chapter 17 M&A and Financial Reporting … 309

U.S. GAAP and IFRS … 310

Relevant FASB and IFRS Statements … 311

Reviews by the Audit Firm … 312

ASC 820: Fair Value Measurements … 313

ASC 805: Business Combinations … 315

ASC 350: Goodwill and Other Intangible Assets … 325

Incorporating ASC 805 into the Due Diligence Process … 326

References … 329

Chapter 18 Intangible Asset Valuation … 331

Approaches to Valuing Intangible Assets … 332

Key Components to Intangible Asset Valuation … 334

Intangible Asset Valuation Methods … 343

Conclusion … 352

Chapter 19 Measuring and Managing Value in High-Tech Start-Ups … 353

Why Appraisals of High-Tech Start-Ups Are Essential … 353

Key Differences in High-Tech Start-Ups … 355

Value Management Begins with Competitive Analysis … 356

Stages of Development … 358

Risk and Discount Rates … 360

Start-Ups and Traditional Valuation Methods … 361

QED Survey of Valuation Methods Used by Venture Capitalists … 367

A Probability-Weighted Scenario Method to Value Start-Ups … 372

Equity Allocation Methods … 377

Conclusion … 380

Chapter 20 Cross-Border M&A … 381

Strategic Buy-Side Considerations … 381

Due Diligence … 390

Sell-Side Considerations … 395

PART V Case Studies … 397

Chapter 21 Merger and Acquisition Valuation Case Study – Distribution Company … 399

History and Competitive Conditions … 400

Potential Buyers … 401

General Economic Conditions … 402

Specific Industry Conditions … 403

Growth … 404

Computation of the Stand-Alone Fair Market Value … 404

Risk and Value Drivers … 409

Summary and Conclusion of Stand-Alone Fair Market Value … 418

Computation of Investment Value … 420

Suggested Considerations to Case Conclusion … 427

Chapter 22 Merger and Acquisition Valuation Case Study –Professional Services Firm … 429

Characteristics … 429

Valuation Methods … 433

Case Study Introduction … 435

Potential Buyer … 435

Historic Financial Performance … 436

Future Expectations … 439

Risk and Value Drivers … 443

Discounted Cash Flow Method … 445

Other Valuation Methods to Consider … 445

Suggested Considerations to Case Conclusion … 451

About the Authors … 453

Glossary … 455

Index … 465