There are several critical aspects to developing an effective acquisition strategy: 1. Identifying acquisition targets based on factors like competitive advantage, market segment leadership, financial performance, and access to new geographies. 2. Diligencing the target by reviewing their market, financials, and business operations. 3. Evaluating other strategic considerations like synergies. Key valuation methodologies for acquisitions include comparable company analysis, precedent transaction comparables, discounted cash flow analysis, and pro forma financial analysis to assess EPS accretion/dilution. Each method has different sensitivities and assumptions that impact the valuation.

1. Complete Guide to Building an
Acquisition Strategy and
Valuation Methodologies

2. There are various aspects to consider when searching for an acquisition
target
IDENTIFYING AN ACQUISTION TARGET
Key Aspects of Value to an Acquiror
Competitive
Advantage
Important Market
Segment
Robust Financial
Performance
Access to
New Geographies
• Strong market position
through large, stable user
base or other competitive
edge
• Expertise in a particular
division or area
• Target's strengths can be
leveraged throughout
Acquiror's organization
• Operates key commercial
platform with potential for
strong cash growth
• Market is of key strategic
importance in the value
chain
• Target's products or services
can catalyze growth of
Acquiror's existing
businesses
• Healthy business with track
record of strong cash flows
and resilient earnings
• Strong top-line growth
trajectory
• Disciplined cost
management
• Target has established
positions in new or high
growth markets where the
Acquiror is not present
• These new markets are
relatively difficult to expand
into organically
Ideal Acquisition Target
A
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3. Aligning Acquisition Strategy to Seller Process
IDENTIFYING AN ACQUISTION TARGET
Competitive Auction
• Formal process with organized disclosure on business
sold via information memos and management
presentations
— Auctions usually have a longer timetable
— Higher chance that Acquiror’s interest may be
leaked to public
• When drawn into a competitive auction, Acquiror can
avoid a bidding war by positioning each bid
strategically in two-tiered processes
— E.g. bid conservatively in first round to learn more
about other bidders and preserve valuation
flexibility
• Acquiror should also conduct an interloper analysis to
— Identify potential financial or strategic buyers
— Assess their ability to pay
— Estimate rivals’ ability to achieve synergies with
Target
— Evaluate impact to market landscape if Target falls
into competitor’s hands
Negotiated Transaction
• Less formal process with:
— More flexibility in requesting specific or
customized information
• Greater access to Target’s management team
• In a limited negotiation, Acquiror can:
— Push for exclusivity to remove concerns over
interloper intervention
— Enjoy more room to structure transaction
creatively
– E.g. Acquiror can decide whether to acquire
entire business or carve out specific assets
• Limited competition suggests a higher likelihood for
Acquiror to capture pre-emptive value
Strategic positioning in a buyside approach can vary significantly depending on whether
Seller is running a competitive auction or engaged in exclusive negotiations with Acquiror
A
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4. Diligencing the Target entails reviewing the market, financials and the
business…
DILIGENCING THE TARGET
Key Areas Details
Market
Overview
• Size and scope of markets
• Key economic drivers
• Expected regulatory changes that could change competitive landscape
• Key competitors
— Historical, current and anticipated
— Strengths/weaknesses vs. peers
Financials
• Key performance indicators and expected trends
• Historical audited financials
• Projected financials and near-term
• Variance between historical budgets and actual performance
• Capital structure and expected maturities
Business
• Marketing and customer acquisition strategy vs. peers
• Customer mix
— Focus on high or low share customers
— Mix of customer demographics
• Outlook on required capex over next few years
— Could changes in technology etc derail those projections?
• Cost structure vs. peers
B
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5. CONTENTS
There are several critical aspects to a well thought-out acquisition strategy for enterprise assets
1. Formulating an Acquisition Strategy
A. Identifying the Acquisition Target and Process
B. Diligencing the Target
C. Evaluating Other Strategic Considerations
2. Overview of Valuation Methodologies
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6. CONTENTS
There are several critical aspects to a well thought-out acquisition strategy for enterprise assets
1. Formulating an Acquisition Strategy
A. Identifying the Acquisition Target and Process
B. Diligencing the Target
C. Evaluating Other Strategic Considerations
2. Overview of Valuation Methodologies
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7. Valuation Methodologies and Key Issues
OVERVIEW OF VALUATION METHODOLOGIES
Methodology Key Sensitivities
Public Market
Comparables
• Trading multiples of comparable companies
• To determine the relative value of companies within the
sector
• Quality of comparables
• Market environment
• Consistent accounting treatment
• Forward-looking multiples
• Public data
Merger Market
Comparables
• Market of comparable transactions
• Takes into consideration acquisition premium
• Quality of comparable transactions
• Historical multiples
• Generally limited public data
• Market conditions at time of transaction
Discounted
Cash Flow
(“DCF”)
• Present value (“PV”) of projected unlevered free cash
flows (“FCFs”)
• Discounted at weighted average cost of capital
(“WACC”)
• Quality of financial forecasts (large number of
assumptions)
• Discount rate
• Terminal value / perpetuity growth rate
Pro Forma
Analysis
• Impact of a transaction (growth, margins, credit rating,
etc.)
• Assess whether a transaction is accretive / dilutive to
EPS
• Near-term vs. long-term impact
• Affected by financing capital structure
• Affected by accounting (purchase price allocation)
• Not indicator of fundamental value
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8. Financial ratios should be compared across different sectors
1
2013E EV / Sales
2013E EV / EBITDA
Sector 1 Sector 2 Sector 3
1
Benchmarking of Market Multiples – Example Output
OVERVIEW OF VALUATION METHODOLOGIES – PUBLIC MARKET
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9. Overview of the Discounted Future Value Approach
Discounted Future Value Approach
• Consider the start-up when the business model approaches maturity, and achieves positive EBITDA and longer-target margin targets
• The start-up can be valued with a 1-year forward multiple on future financial metrics based on projected future forward multiples
• The resulting valuation is subsequently to today to find the present value of the start-up business
Overview
Illustrative Calculation Methodology
Forward 2017
“Steady” EBITDA
1 Year Forward
Multiple
Future Value
at 2016
Present Value Today at
2013
x = Discount
4 Years
1
1
OVERVIEW OF VALUATION METHODOLOGIES – PUBLIC MARKET
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10. Analysing precedent transactions will give a snapshot of multiples
being paid
Date _ _ _ _ _ _ _ _ _ _ _ _ _ _
Acquirer _ _ _ _ _ _ _ _ _ _ _ _ _ _
Target _ _ _ _ _ _ _ _ _ _ _ _ _ _
Transaction Value _ _ _ _ _ _ _ _ _ _ _ _ _ _
Period _ _ _ _ _ _ _ _ _ _ _ _ _ _
2
Selected Precedent Transactions – Example Output
OVERVIEW OF VALUATION METHODOLOGIES – MERGER MARKET
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11. There are three main components of a Discounted Cash Flow Analysis
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Calculation of
Discount Rate
Determination of
Free Cash Flows
Calculation of
Terminal Value
DCF
Analysis
• Value of business in
projection period
• Projections (5 – 10 years)
— Sales growth
— Margins
— Capex
— Change in Working
Capital
• Incorporates time value of
money
• WACC vs. Equity
discounting
• Discount Rate
— Acquiror, Target or
Sector?
— Risk Free Rate
— Beta
• Value of business /
cashflows post projection
period
• Exit multiple method
• Perpetuity growth method
(steady state)
A B
C
3
OVERVIEW OF VALUATION METHODOLOGIES - DCF
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12. Terminal value serves as proxy for present value of cash flow stream
that is to be generated after the projection horizon
• Terminal value serves as proxy for present value of cash flow stream that is to be generated after the projection
horizon (usually 5 to 10 years)
— Ideally when business is in steady state
• Calculate PV of terminal value and add to PV of projected cash flows to arrive at a total value for the company
• The two principal terminal valuation approaches are:
Methodology Benchmarks
Perpetuity
Method
• Industry growth rate
• General economic growth rate
• Differentiate real growth vs.
inflation
• Compare results to check
assumptions
• Alternatively, calculate terminal
value through one method and
back out the “implied”
assumption for the other
method (e.g. implied perpetuity
growth of a certain exit multiple)
Exit
Multiple
TV = EBITDA x Exit Multiple
• Assumes sale/IPO of business at
multiple of final year’s sales,
EBITDA, EBIT or other metric
• Current trading multiples
• Mid-cycle trading multiples
• M&A multiples
TV =
FCF5 x (1+g)
WACC – g
TV =
FCF in Year after Final Year
WACC – Growth Rate
3B
OVERVIEW OF VALUATION METHODOLOGIES - DCF
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13. Pro Forma Analysis is a method of calculating financial results in order
to emphasize either current or projected figures
OVERVIEW OF VALUATION METHODOLOGIES – PRO FORMA
Key Inputs to Consider
• Mix of financing
— Stock vs. cash
• Financing Cost (incremental debt to finance the
acquisition)
— Interest expense on new debt issued
— Interest income lost on cash used
• Accounting Treatment
— Excess purchase price allocated to asset write-up
– Depreciated / amortized over how long?
• Transaction Costs
— Financing fees, advisor fees
— Merger costs
• Taxes
Considerations
• Impact of target to pro forma growth and margin profile
— Potential multiple impact
— Level of diversification vs. product concentration
• Synergy Analysis
— Cross-selling opportunity
— Cost savings potential
— Amount required to breakeven (if dilutive) vs.
amount that is achievable
• Balance sheet impact
— Credit rating
— Ability to de-lever
— Pro forma ownership
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14. Deal Terms
Company B Share Price (US$) 10.00
Premium Over Purchase Price 20.0%
Acquisiton Share Price (US$) 12.00
Company B Shares Outstanding (mm) 500
Implied Takeover Equity Value 6,000
Financing Terms
Debt Financing (50%) 3,000
Equity Financing (50%) 3,000
Company A Share Price 20.00
Company A Pre-Deal Shares Outstanding 1,000
Company A Post-Deal Shares Outstanding 1,150
EPS Accretion / (Dilution)
(US$ mm) 2013E 2014E
Company A Net Income 2,000 2,200
Company B Net Income 500 550
Post-Tax Interest Expense @ 4.0% Pre-Tax¹ (78) (78)
Pro Forma Net Income 2,422 2,672
Company A Pro Forma EPS (US$) 2.11 2.32
Company A Status Quo EPS (US$) 2.00 2.20
EPS Accretion / (Dilution) 5.3% 5.6%
Company A Acquires Company B – An Illustrative Example
1 Assumes corporate tax rate of 35%
Illustrative EPS Accretion / (Dilution) Analysis Sensitivity Analysis
2013E EPS Accretion
Acquisition Share Price
Pre-Tax
Cost
of
Debt
2014E EPS Accretion
Acquisition Share Price
Pre-Tax
Cost
of
Debt
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5.3% 10.00 11.00 12.00 13.00 14.00
3.0% 8.9% 7.5% 6.2% 4.8% 3.5%
3.5% 8.6% 7.1% 5.7% 4.3% 3.0%
4.0% 8.2% 6.7% 5.3% 3.9% 2.5%
4.5% 7.9% 6.4% 4.9% 3.4% 2.0%
5.0% 7.5% 6.0% 4.5% 3.0% 1.5%
5.6% 10.00 11.00 12.00 13.00 14.00
3.0% 9.1% 7.7% 6.4% 5.0% 3.7%
3.5% 8.8% 7.4% 6.0% 4.6% 3.3%
4.0% 8.5% 7.0% 5.6% 4.2% 2.9%
4.5% 8.2% 6.7% 5.2% 3.8% 2.4%
5.0% 7.8% 6.3% 4.8% 3.4% 2.0%
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OVERVIEW OF VALUATION METHODOLOGIES – PRO FORMA
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