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MERGER ANALYSIS: VALUING

THE TARGET FIRM & BID


PRICE
PERTEMUAN 6.2:
Prof. Dr. kamaludin
Valuing the Target Firm & Bid
Price
Kamaludin
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TOPIK
Valuing the Target Firm & Bid
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1. Valuing the target firm
2. Setting the bid price
3. Analysis of the change capital structure to
value equity.
Valuing the target firm

Valuing the Target Firm & Bid
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1. Market multiple analysis:
PER (price earning ratio)
II. Discounted cash flow analysis:
a. The corporate valuation model
b. The free cash flow to equity (FCFE) atau
equity residual model
c. The adjusted present value (APV)
PER
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PER = P : EPS
Jika diketahui misalnya rata-rata industri PER
adalah sebesar 15X. Nilai ini sebagai dasar
untuk mengevaluasi harga yang wajar.
Jika diketahui EPS suatu perusahaan adalah $4.
Maka harga saham prshn tsb adalah: 15 X 4 =
$60.
Harga kisaran $60 per lembar inilah sebagai
harga tawar bagi perusahaan target.
Model PER memang amat sederhana, tetapi
amat praktis untuk diterapkan. Tapi PER tidak
bisa diterapkan jika earning negatip.
Discounted cash flow analysis
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1. The corporate valuation model (CVM): adalah
penilaian total perusahaan yang berupa present value
dari free cash flow (baik debt holder atau stock holder)
yang menggunakan discounted WACC.
2. The free cash flow to equity (FCFE): nilai ekuitas
adalah present value dari projected free cash flow
equity, yang menggunakan discounted ROE.
3. The adjusted present value (APV): nilai operasi
perusahaan adalah discounting dari projected free
cash flow + interest taxe shield arising, dimana
discounted menggunakan unlevered cost of equity.





The APV Model
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V_operation = V_unlevered + V_tax shield
Unlevered value of firm = PV of FCFs discounted at
unlevered cost of equity, r
sU
.
Value of interest tax shield = PV of interest tax
savings at unlevered cost of equity.
Interest tax savings =Interest(tax rate) = TS
t
.

Value of operation:
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N
N
N
t
rsu
TS FCF
rsu
HV
t
t t
) 1 (
1
) 1 (



Note to APV
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APV is the best model to use when the capital
structure is changing.
The Corporate Valuation model is easier than
APV to use when the capital structure is
constantsuch as at the horizon.

Steps in APV Valuation
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1. Project FCF
t
,TS
t
, horizon growth rate, and
horizon capital structure.
2. Calculate the unlevered cost of equity, r
sU
.
3. Calculate WACC at horizon.
4. Calculate horizon value using constant growth
corporate valuation model.
5. Calculate V
ops
as PV of FCF
t
, TS
t
and horizon
value, all discounted at r
sU
.

APV Valuation Analysis (In Millions)

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Free Cash Flows after Merger Occurs
2004 2005 2006 2007
Net sales $60.0 $90.0 $112.5 $127.5
Cost of goods sold (60%) 36.0 54.0 67.5 76.5
Selling/admin. expenses 4.5 6.0 7.5 9.0
EBIT 19.5 30.0 37.5 42.0
Taxes on EBIT (40%) 7.8 12.0 15.0 16.8
NOPAT 11.7 18.0 22.5 25.2
Gross investment in opr. Cap. 0.0 7.5 6.0 4.5
Free Cash Flow 11.7 10.5 16.5 20.7
Interest Tax Savings after Merger
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Interest expense 5.0 6.5 6.5
7.0
Interest tax savings 2.0 2.6 2.6
2.8

Interest tax savings are calculated as
interest(T). T = 40%
2004 2005 2006 2007
Discount rate for Horizon Value
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At the horizon the capital structure is constant, so
the corporate valuation model can be used, so
discount FCFs at WACC.

Contoh: perhitungan r
sL(ROE).
r
sU, dan
WACC
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Diketahui tingkat bunga bebas risiko 7%,
keuntungan pasar 11%.
Perbandingan porsi hutang dan ekuitas: 20 : 80.
Beta premerger 1.3
Kupon obligasi dengan tarif 9%.
Tingkat pertumbuhan 6%.

Discount Rate Calculations
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r
sL(ROE)
= r
RF
+ (r
M
- r
RF
)b
Target

= 7% + (4%)1.3 = 12.2%
r
sU
= w
d
r
d
+ w
s
r
sL

= 0.20(9%) + 0.80(12.2%)
= 11.56%
WACC = w
d
(1-T)r
d
+ w
s
r
sL

=0.20(0.60)9% + 0.80(12.2%)
= 10.84%

Horizon, or Continuing Value

Horizon value =

g WACC
g) )(1 (FCF
2007

06 . 0 1084 . 0
) 06 . 1 ( 7 . 20 $

Valuing the Target Firm & Bid


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= $453.3 million.

What Is the value of the Target Firms
operations to the Acquiring Firm? (In
Millions)
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Free Cash Flow $11.7 $10.5 $16.5 $ 20.7
Horizon value 453.3
Interest tax shield 2.0 2.6 2.6 2.8
Total $13.7 $13.1 $19.1 $476.8
2004 2005 2006 2007
V
Ops
= + + +
= $344.4 million.
$13.7
(1.1156)
1
$13.1
(1.1156)
2
$19.1
(1.1156)
3
$476.8
(1.1156)
4
What is the value of the Targets
equity?
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The Target has $55 million in debt.
Vops debt = equity
344.4 million 55 million = $289.4 million
= equity value of target to the acquirer.

Would another potential acquirer obtain the
same value?
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No. The cash flow estimates would be different,
both due to forecasting inaccuracies and to
differential synergies.
Further, a different beta estimate, financing mix,
or tax rate would change the discount rate.

Data:
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Assume the target company has 20 million
shares outstanding.
The stock last traded at $11 per share, which
reflects the targets value on a stand-alone
basis.
How much should the acquiring firm offer?
Perhitungan:
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Price
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Estimate of targets value = $289.4 million
Targets current value = $220.0 million
Merger premium = $ 69.4 million
Presumably (kelihatannya), the
targets value is increased by $69.4
million due to merger synergies,
although realizing such synergies has
been problematic in many mergers.
ANALISIS:
Valuing the Target Firm & Bid
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The offer could range from $11 to ($289.4/20 )=
$14.47 per share.
At $11, all merger benefits would go to the
acquiring firms shareholders.
At $14.47, all value added would go to the target
firms shareholders.
The graph on the next slide summarizes the
situation.

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25 - 29
.
0 5 10 15 20
Change in
Shareholders
Wealth
Acquirer Target
Bargaining Range =
Synergy
Price
Paid for
Target
$11.00 $14.47
Points About Graph
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Nothing magic about crossover price.
Actual price would be determined by bargaining.
Higher if target is in better bargaining position,
lower if acquirer is.
If target is good fit for many acquirers, other firms
will come in, price will be bid up. If not, could be
close to $11.

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Acquirer might want to make high preemptive
bid to ward off other bidders, or low bid and then
plan to go up. Strategy is important.
Do targets managers have 51% of stock and
want to remain in control?
What kind of personal deal will targets managers
get?

What if the Acquirer intended to increase the
debt level in the Target to 40% with an interest
rate of 10%?
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Free cash flows wouldnt change
Assume interest payments in short term wont
change (if they did, it is easy to incorporate
that difference)
Long term rsLwill change, so horizon WACC
will change, so horizon value will change.

New WACC Calculation
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New rsL = rsU + (rsU rd)(D/S)
= 11.56% + (11.56% - 10%)(0.4/0.6)
= 12.60%

New WACC = wdrd(1-T) + wsrsL
= 0.4(10%)(1-0.4) + 0.6(12.6%)
= 9.96%

New Horizon Value Calculation
Horizon value =

=

= $554.1 million.
g WACC
g) )(1 (FCF
2007

06 . 0 0996 . 0
) 06 . 1 ( 7 . 20 $

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New V
ops
and V
equity
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Free Cash Flow $11.7 $10.5 $16.5 $ 20.7
Horizon value 554.1
Interest tax shield 2.0 2.6 2.6 2.8
Total $13.7 $13.1 $19.1 $577.6
2004 2005 2006 2007
V
Ops
= + + +
= $409.5 million.
$13.7
(1.1156)
1
$13.1
(1.1156)
2
$19.1
(1.1156)
3
$577.6
(1.1156)
4
New Equity Value
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$409.5 million - 55 million = $354.5 million
($354.5 : 20) = $17.725 (sebelumnya 14.47 per
share), jadi lebih tinggi, atau:
This is $65 million($354.5 - $289.4) , or $3.25
per share ($65 : 20) more than if the horizon
capital structure is 20% debt (lihat data
sebelumnya).
The added value is the value of the additional tax
shield from the increased debt.


Do mergers really create value?

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According to empirical evidence, acquisitions do
create value as a result of economies of scale,
other synergies, and/or better management.
Shareholders of target firms reap most of the
benefits, that is, the final price is close to full
value.
Target management can always say no.
Competing bidders often push up prices.