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Summary Investment Banking
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Summary of Investment Banking lectures by Professor Alain Praet (MBA Financial Analysis )
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SummaryINVESTMENT
BANKING
MBA Financial Analysis
Academic year 2024-2025
,Table of Contents
Part I – Mergers & Acquisitions .............................................................................. 6
1 Introduction to Mergers, Acquisitions and Other Restructuring Activities .......... 6
1.1 Corporate Restructuring Process .................................................................................... 6
1.1.1 Operational restructuring......................................................................................... 6
1.1.2 Financial restructuring............................................................................................. 6
1.2 M&A as a form of Corporate Restructuring...................................................................... 7
1.2.1 M&A as a restructuring activity ................................................................................ 7
1.2.2 M&A and potential strategy ..................................................................................... 7
1.3 Corporate Restructuring: Terminology ............................................................................ 8
1.3.1 Legal perspective.................................................................................................... 8
1.3.2 Economic perspective ............................................................................................. 8
1.4 Diversification ................................................................................................................. 8
2 Introduction to M&A’s: Empirical Evidence............................................................ 9
2.1 Issues in empirical evidence ........................................................................................... 9
2.2 Event study methodology ............................................................................................... 9
2.2.1 Measurement of abnormal returns .......................................................................... 9
2.2.2 Calculation of the predicted return........................................................................... 9
2.3 Combined returns in M&As ........................................................................................... 10
2.4 Target returns in M&As ................................................................................................. 10
2.4.1 Method of payment ............................................................................................... 11
2.4.2 Single vs multiple bidders ..................................................................................... 11
2.4.3 Target run-up ........................................................................................................ 11
2.4.4 Target premium received ...................................................................................... 12
2.5 Bidder returns in M&As ................................................................................................. 12
2.5.1 Returns to acquirer shareholders .......................................................................... 12
2.5.2 Method of payment impacts acquirer returns ......................................................... 12
2.5.2.1 Bidder (acquirer) returns are more negative in stock deals than cash deals ....... 12
2.5.2.2 Difficult-to-value targets .................................................................................... 13
2.5.2.3 Value effect....................................................................................................... 13
2.5.2.4 Key Considerations for Cash Payment .............................................................. 13
2.5.3 Acquirer/target size ............................................................................................... 13
2.5.4 Public vs listed targets .......................................................................................... 13
2.6 Other aspects ............................................................................................................... 13
2.6.1 Role of investment banks ...................................................................................... 13
2.6.2 Cross-border transactions ..................................................................................... 14
2.6.3 Regulation ............................................................................................................ 14
2.6.4 Post-merger operating performance ...................................................................... 14
2.6.5 Long-term stock performance ............................................................................... 14
3 Corporate governance and takeover defenses .................................................... 16
3.1 Corporate governance .................................................................................................. 16
3.1.1 Factors Affecting Corporate Governance: Market Model Perspective .................... 16
3.1.1.1 External to the firm ............................................................................................ 16
3.1.1.2 Internal to the firm ............................................................................................. 16
3.2 Internal Factors: Board of Directors .............................................................................. 17
3.2.1 Board structure ..................................................................................................... 17
3.2.2 Good governance ................................................................................................. 17
3.2.2.1 Belgian CG code ............................................................................................... 17
3.2.2.2 Majority of independent directors?..................................................................... 17
3.2.2.3 Who qualifies as Independent Directors? .......................................................... 18
3.2.2.4 Structure of Board Committees? ....................................................................... 18
3.2.3 Board responsibilities ............................................................................................ 19
3.2.4 Board requirements .............................................................................................. 19
3.2.4.1 How many boards should directors sit on? ........................................................ 19
3.2.4.2 Size of the board ............................................................................................... 19
3.2.4.3 How often should the board meet? .................................................................... 19
3.2.4.4 Should top executives hold more stock?............................................................ 19
1
, 3.2.4.5 Does option compensation create value for the shareholders? .......................... 19
3.3 Internal Factors: Corporate Culture & Values ................................................................ 20
3.4 External Factors: Institutional Activism .......................................................................... 20
3.5 External Factors: Market for Corporate Control ............................................................. 20
3.5.1 Alternative Takeover Tactics ................................................................................. 20
3.5.1.1 Friendly deals ................................................................................................... 20
3.5.1.2 Hostile deals ..................................................................................................... 20
3.5.2 Pre-offer Takeover Defenses ................................................................................ 21
3.5.3 Post-offer Takeover Defenses ............................................................................... 22
3.6 Things to remember ..................................................................................................... 22
3.7 Corporate Ownership around the world......................................................................... 22
3.7.1 Alternative models of corporate control ................................................................. 23
3.7.2 Investor protection around the world ..................................................................... 23
3.7.3 Factors affecting Corporate Governance: Market Model Perspective ..................... 24
4 Developing business and acquisition plans......................................................... 25
4.1 Phase 1: Business Plan ................................................................................................ 25
4.1.1 Industry/market definition ...................................................................................... 25
4.1.2 External analyisis .................................................................................................. 25
4.1.3 Internal analysis .................................................................................................... 25
4.1.4 Opportunities and threats from external and internal analysis ................................ 25
4.1.5 Business mission and vision ................................................................................. 26
4.1.6 Business/ corporate strategies .............................................................................. 26
4.1.7 Implementation strategy ........................................................................................ 26
4.2 Phase 2: Acquisition Plan ............................................................................................. 27
4.2.1 Plan objectives ..................................................................................................... 27
4.2.2 Timetable.............................................................................................................. 27
4.2.3 Resource/capability review ................................................................................... 27
4.2.4 Management preferences ..................................................................................... 28
4.2.5 Search plan for targets.......................................................................................... 28
4.2.6 Negotiation plan.................................................................................................... 28
4.2.7 Determine initial offer price.................................................................................... 28
4.2.8 Financing plan “acid test” ...................................................................................... 28
4.2.9 Integration plan ..................................................................................................... 28
4.2.10 Things to remember .............................................................................................. 28
5 Implementation: search through closing .............................................................. 29
5.1 Phase 3: initating the search......................................................................................... 29
5.2 Phase 4: screening process.......................................................................................... 29
5.3 Phase 5: first contact – approach strategy .................................................................... 30
5.4 Phase 6: negociation .................................................................................................... 30
5.4.1 Key deal strucuring considerations ........................................................................ 31
5.4.2 Buyer due dilligence during negociation ................................................................ 31
5.4.3 Determining the purchase price for the target firm ................................................. 31
5.5 Phase 7: Integration Plan ............................................................................................. 32
5.6 Phase 8: Closing .......................................................................................................... 32
5.7 Phase 9: Integration ..................................................................................................... 34
5.8 Phase 10: conducting post-closing evaluation ............................................................... 34
6 Integration: mergers and acquisitions .................................................................. 36
6.1 Factors affecting successful integration ........................................................................ 36
6.2 Viewing integration as a process .................................................................................. 36
6.2.1 Integration planning .............................................................................................. 36
6.2.2 Developing communication plans .......................................................................... 36
6.2.3 Creating a new organization.................................................................................. 37
6.2.4 Developing staffing plans ...................................................................................... 37
6.2.5 Functional integration............................................................................................ 38
6.2.6 Integrating corporate cultures................................................................................ 38
Part II - Valuation .................................................................................................... 40
7 Valuation and modelling I ...................................................................................... 40
2
, 7.1 Relative valuation methods ........................................................................................... 40
7.1.1 Peer multiples ....................................................................................................... 40
7.1.1.1 Applying market-based relative valuation methods ............................................ 40
7.1.1.2 Methodology ..................................................................................................... 41
7.1.1.3 PEG ratio .......................................................................................................... 43
7.2 Transaction multiples.................................................................................................... 44
7.3 Asset-oriented methods ................................................................................................ 45
7.3.1 Tangible book value.............................................................................................. 45
7.3.2 Liquidation method ............................................................................................... 46
7.3.3 Break-up value ..................................................................................................... 46
7.3.4 Replacement cost method .................................................................................... 47
7.4 Dividend discount model: DDM ..................................................................................... 47
7.4.1 Valuation .............................................................................................................. 48
7.4.2 Determining the parameters .................................................................................. 48
7.4.3 Capital Asset Pricing Model: CAPM ...................................................................... 48
7.4.3.1 CAPM represented graphically .......................................................................... 48
7.4.4 Analyzing risk ....................................................................................................... 48
7.4.4.1 Leveraged vs unleveraged Betas ...................................................................... 50
7.4.4.2 Estimating a firm’s betas ................................................................................... 51
1. Regression approach ................................................................................................ 51
7.4.5 Required Returns: Cost of Equity (ke) .................................................................... 52
8 Valuation and modelling II ..................................................................................... 53
8.1 Discounted Free Cash Flow Model (DFCM) .................................................................. 53
8.1.1 Free Cash Flow Firm or Enterprise Cash Flow: FCFF ........................................... 53
8.1.2 Free Cash Flow Equity or Equity Cash Flow: FCFE............................................... 53
8.1.3 Comparing FCFF and FCFE ................................................................................. 54
8.1.4 Commonly used Discounted Cash Flow valuation methods ................................... 54
8.1.4.1 Zero Growth Model ........................................................................................... 54
8.1.4.2 Constant Growth Model .................................................................................... 54
8.1.4.3 Variable (supernormal) Growth model ............................................................... 55
8.1.5 Determining growth rates ...................................................................................... 56
8.1.6 Choosing the correct tax rate (marginal or effective) .............................................. 56
8.1.7 Adjusting firm value for non-operating assets and liabilities ................................... 57
8.2 Valuation using EVA ..................................................................................................... 58
8.3 Real option valuation .................................................................................................... 59
8.3.1 Alternative real option valution methods ................................................................ 59
8.3.2 Black-Scholes Option Pricing Model...................................................................... 60
8.3.3 Mergers and diversification ................................................................................... 61
8.3.3.1 M&A conclusion ................................................................................................ 61
9 Analysis and valuation of private firms ................................................................ 63
9.1 What is a private firm? .................................................................................................. 63
9.1.1 Key characteristics of privately held firms .............................................................. 63
9.2 Family ownership ......................................................................................................... 63
9.2.1 Potential benefits and costs .................................................................................. 63
9.2.2 Family ownership and performance....................................................................... 64
9.2.3 Family ownership and acquisitions ........................................................................ 65
9.3 Challenges of analyzing and valueing privatelyheld firms .............................................. 65
9.4 Steps involved in valueing privately held businesses..................................................... 65
9.4.1 Step 1: adjusting the income statement ................................................................. 65
9.4.2 Step 2: determine appropriate valuation methodology ........................................... 66
9.4.3 Step 3: select appropriate discount (capitalization) rates ....................................... 67
9.4.4 Adjust firm value for liquidity risk, value of control or minority risk .......................... 68
9.4.4.1 Discount Applied to Firm Value ......................................................................... 68
9.4.4.2 Premium Applied to Firm Value ......................................................................... 68
9.4.4.3 Liquidity discount .............................................................................................. 68
9.4.4.4 Control premium ............................................................................................... 68
9.4.4.5 Minority discount ............................................................................................... 68
9.4.4.6 Interaction between liquidity discount, control premiums and minority discount .. 69
9.5 Adjusting target firm value ............................................................................................ 69
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, 9.5.1 Generalizing adjustments to target firm value ........................................................ 69
9.5.2 Practice problem ................................................................................................... 70
Part III – Corporate Restructuring ......................................................................... 72
10 Business Alliances ............................................................................................. 72
10.1 Business alliances as alternatives to M&A .................................................................... 72
10.2 Motivations for forming alliances ................................................................................... 72
10.3 Business alliance critical success factors ...................................................................... 72
10.4 Joint venture case study - Creating NBC Universal ....................................................... 73
10.5 Legal forms follows business strategy ........................................................................... 73
10.5.1 Alternative legal forms of business alliances ......................................................... 74
10.6 Alliance deals structuring issues ................................................................................... 74
10.7 Empirical studies of business alliances ......................................................................... 74
11 Alternative restructuring strategies ................................................................... 76
11.1 Divestitures .................................................................................................................. 76
11.1.1 Why do firms exit businesses? .............................................................................. 76
11.1.2 Focus motive ........................................................................................................ 76
11.1.3 Managerial capabilities / efficiency motive ............................................................. 76
11.1.4 Regulatory concerns ............................................................................................. 76
11.1.5 Financial constraints motive .................................................................................. 76
11.1.6 Reducing agency problems................................................................................... 77
11.1.7 Liquidity hypothesis .............................................................................................. 77
11.2 Evidence on divestitures in Belgium .............................................................................. 77
11.3 Deciding when to sell – financial evaluation of divestitures ............................................ 77
11.3.1 Public or controlled auctions ................................................................................. 78
11.3.2 Choosing the right selling process ......................................................................... 78
11.4 Spin-offs....................................................................................................................... 79
11.5 Case study – Kraft Foods breaks up ............................................................................. 79
11.6 Equity Carve-outs ......................................................................................................... 80
11.7 Tracking stocks ............................................................................................................ 80
11.8 Split-offs ....................................................................................................................... 81
11.8.1 Cash rich split-off .................................................................................................. 81
11.9 Choosing appropriate restructuring strategy: viable firms .............................................. 82
11.9.1 Wealth effect......................................................................................................... 82
Part IV - Financing the deal ................................................................................... 84
12 Venture Capital, Private Equity and IPO ............................................................ 84
12.1 Financing M&As ........................................................................................................... 84
12.1.1 Equity options ....................................................................................................... 84
12.1.2 Seller financing ..................................................................................................... 84
12.1.3 Cash on hand and selling rebundant assets .......................................................... 84
12.2 Venture Capital............................................................................................................. 84
12.2.1 Key features ......................................................................................................... 84
12.2.2 Obtaining VC ........................................................................................................ 85
12.3 Private equity ............................................................................................................... 85
12.3.1 Key features ......................................................................................................... 86
12.3.2 Leverage buyouts ................................................................................................. 86
12.3.2.1 Financial buyers or sponsors ........................................................................... 86
12.3.2.2 Variants on LBO .............................................................................................. 87
12.3.2.3 Financial structure of LBOs .............................................................................. 87
12.3.2.4 LBO’s impact of target firm employment, innovation, and capital spending ....... 88
12.3.2.5 LBO advantages and disadvantages ................................................................ 88
12.3.3 How LBOs create value ........................................................................................ 89
12.3.3.1 Tax shield ........................................................................................................ 89
12.3.3.2 Reducing debt and increasing margins thereby increasing potential exit multiples
90
12.3.3.3 LBO value is maximized by reducing debt, improving margins and properly timing
exit 90
12.3.4 Role of PE and hedge funds in deal financing ....................................................... 91
4
, 12.3.5 Common LBO Deal structures .............................................................................. 91
12.3.5.1 Direct merger ................................................................................................... 91
12.3.5.2 Subsidiary merger............................................................................................ 92
12.3.5.3 Typical LBO capital structure ........................................................................... 92
12.3.6 Case study: Cox Enterprises takes Cox Communications private .......................... 92
12.4 Initial Public Offering (IPO) ........................................................................................... 93
12.4.1 Motives for an IPO ................................................................................................ 94
12.4.2 Advantages and disadvantages of an IPO ............................................................. 94
12.4.3 Methods ............................................................................................................... 94
12.4.4 Underwriting arrangements ................................................................................... 95
12.4.5 Underwriter spread ............................................................................................... 95
12.4.6 Anomalies............................................................................................................. 95
12.4.6.1 Underpricing .................................................................................................... 95
12.4.6.2 Hot issue markets ............................................................................................ 97
12.4.6.3 Long run underperformance ............................................................................. 97
12.5 Seasoned Equity Offerings (SEO)................................................................................. 97
12.5.1 Motives ................................................................................................................. 97
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