Brigham Young University Introduction to Investment Banking

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Brigham Young University Introduction to Investment Banking

  1. 1. Presentation to: Brigham Young University Introduction to Investment Banking March 7, 2006
  2. 2. Table of Contents Agenda I. Introduction II. Investment Banking Overview III. Role of An Analyst IV. Recruiting Process V. Investment Banking Interviews VI. Lehman Brothers Overview _____________________________________________________________ Appendices A. Basic Finance / Valuation Workshop B. Suggested Reading Material / Resources
  3. 3. Introduction
  4. 4. Introduction Introduction We are pleased to be able to speak with you about investment banking, and the steps and considerations involved in landing a job in this industry Presenters are Brigham Young University alumni and members of Lehman Brother’s BYU recruiting team – Colin Cropper, Vice President, Global Mergers & Acquisitions (BYU Class of 1996) – Tyler Willardson, Analyst, Global Technology Mergers & Acquisitions (BYU Class of 2004) Although we work for Lehman Brothers, this presentation is meant to be generally applicable to all investment banking firms 1
  5. 5. Investment Banking Overview
  6. 6. Investment Banking Overview Investment Banking Overview Investment Banking Corporate Structure Lehman Brothers Investment Investment Fixed Equities Management Banking Income Private Industry Investment Sales Groups Management Asset Product Trading Management Groups Geographic Private Research Groups Equity 2
  7. 7. Investment Banking Overview Investment Banking Overview Functional Areas of a Typical Investment Bank Capital Markets – Sales, Trading & Research (Equity and Fixed Income) – Distributes new (primary) security issues to institutional investors/clients – Transacts blocks of previously issued (secondary) securities through private placement or negotiation – Maintains markets for securities already distributed – Provides research on securities, companies, industries and economies Investment Management Services – Provides investment and financial advisory services – Focuses on high net worth individuals and mid-sized institutional investors Investment Banking – Provides strategic, financial and valuation advisory services – Raises capital through the issuance of securities – Advises companies in merger & acquisition and restructuring transactions – Offers specialized products and services to meet the needs of corporate and government clients 3
  8. 8. Investment Banking Overview Investment Banking Overview What is Investment Banking? Provide strategic, financial and valuation advisory services – Use industry knowledge, expertise and contacts to advise senior executives and boards of directors – Identify and assess strategic opportunities – Interpret market information and enhance shareholder value – Provide general valuation services (e.g., segment analysis, break-up valuations, fairness opinions) Raise capital through the issuance of securities – Act as intermediary between issuers and investors – Provide access to equity and fixed income capital (e.g., investment grade, bank, high yield, preferred stock) – Create specialized securities and derivatives (e.g., convertibles, trust preferred securities, warrants) 4
  9. 9. Investment Banking Overview Investment Banking Overview What is Investment Banking? Advise companies in merger & acquisition and restructuring transactions – Sell-side assignments (represent client in the sale of its company or some of its assets) – Buy-side assignments (represent potential acquirers and negotiate transactions) – Hostile take-over defense/advisory Offer specialized products and services that satisfy the needs of corporate and government clients – Private equity (e.g., Merchant Banking, Real Estate, Venture Capital, other) – Privatization – Monetization – Asset-backed securities 5
  10. 10. Investment Banking Overview Investment Banking Overview Issue of Securities Investment Bank Investment Banking Capital Markets (Sales, Trades & Research) Research Investment Advice Ongoing financing – Equity dialogue – Fixed Income Chinese Wall Industry Group Sales Force Client – Equity Investors – Fixed Income Capital Markets – Equity – Fixed Income Specific Execution Advice 6
  11. 11. Investment Banking Overview Investment Banking Overview M&A Transactions Feedback on possible market reaction and “story”* Research – Equity – Fixed Income Chinese Wall Ongoing Strategic Dialogue Industry Group Potential M&A Client Partner M&A Group Specific Execution Advice ___________________________ * Research involvement requires officially bringing analyst over the wall. 7
  12. 12. Investment Banking Overview Investment Banking Overview Reasons to Consider a Career in Investment Banking Develop wide range of skills (finance, strategy, marketing, etc.) – Team and project management Interact with senior management – Deal directly with CEO/CFO and senior management – Transactions undertaken are often high profile, company altering events Work with highly talented peers – Learn from those around you Able to take on responsibility early – Steep learning curve Industry expertise or breadth of knowledge across industries – Can specialize in an industry (e.g., Industrials, Technology, Healthcare, etc.) or a product group (e.g., M&A, Leveraged Finance or High Yield, Debt Capital Markets, Equity Capital Markets, etc.) that covers many industries Wall Street deal flow – Long-term growth in industry expected to continue – Breadth of different types of transactions and experiences 8
  13. 13. Investment Banking Overview Investment Banking Overview Career Comparisons Investment Banking vs. Sales, Trading & Research – More team and project-oriented, longer-term assignments – More strategic rather than market-oriented – More exposure to valuation, accounting, tax and corporate finance issues – Skills more transferable outside the industry Investment Banking vs. Industry and Management Training Programs – More training and development along a wide range of general business skills (finance and capital markets; tax, accounting and legal; negotiation; marketing; and how to create transaction opportunities) – More responsibility at an earlier stage – Faster career track – More exposure to senior management and board members – Greater interaction with leading industry players, better opportunity to develop network – Greater intensity 9
  14. 14. Investment Banking Overview Investment Banking Overview Career Comparisons Investment Banking vs. Consulting Like consultants, investment bankers provide strategic advice to their clients – For example, investment bankers advise clients on how to survive in a changing industry • Optimize operating and stock price performance by divesting non-core business units • Capitalize on synergies or unrecognized value by acquiring other companies or assets However, unlike consultants, investment bankers also provide financial advice to their clients – Investment bankers present their clients with alternatives to reduce the client’s cost of capital or to help the client obtain a stronger balance sheet – In simple terms, investment bankers efficiently match capital providers with capital users While transactions are conceived at a “strategic” level, execution requires detailed analysis and a thorough understanding of the financial, accounting and tax profile of the client More immediate, visible results to your advice – transactions executed in shorter time period and the “market” provides an immediate opinion on your advice 10
  15. 15. Investment Banking Overview Investment Banking Overview Career Comparisons Investment Banking vs. Start-ups More infrastructure support – Training and development – Substantial resources available to get the job done More defined career path, although still in an entrepreneurial environment – Merit-based system – Team approach Less career risk – As with a start-up, you work plenty of hours, but certainty of reward is much greater Many start-ups look to investment banks for direction – Opportunity to review and evaluate numerous business plans 11
  16. 16. Role of An Analyst
  17. 17. Role of An Analyst Role of An Analyst The Hierarchy Role Years in Industry Managing Director 10+ Client Relationships Strategic Thinking SVP / 3½ to 10 Knowledge of Industry Vice President Execution / Expertise Associate 1 to 3½ Day to Day Execution Analyst 2 to 3 year program 12
  18. 18. Role of An Analyst Role of An Analyst Industry Coverage Preparation of presentations (e.g., new business pitches, board books) Comparable company / transactions analysis Create company profiles Perform industry research Equity / Debt / Convertible Offerings Assemble marketing materials to win the mandate, perform initial valuation work Conduct due diligence through site visits, interviews and extensive industry research Draft prospectus with company management, lawyers and accountants Prepare documentation for internal commitment committee process Produce marketing materials for the company’s management team to present to investors to sell the transaction Develop a target of likely investors and coordinate sales effort with capital markets and sales force Perform final valuation work, price the offering 13
  19. 19. Role of An Analyst Role of An Analyst M&A Valuation analysis – Comparable company / transactions analysis – Discounted cash flow – LBO analysis – Sum-of-the-parts Prepare marketing / presentation materials (e.g., teasers, information memos, board books, committee memos) Attend management presentations / negotiate transaction terms Conduct / host due diligence sessions Draft / edit legal documents (e.g., exclusivity, fairness opinions, engagement letters, purchase agreements) Work with product specialists (e.g., leveraged finance) to refine capital structure issues Winning the Mandate – Develop strategic analysis and rationale for acquisition – Present a thorough analysis of potential acquisition candidates to client – Formulate financing and capital structure to support the acquisition 14
  20. 20. Role of An Analyst Role of An Analyst Lehman Brothers advised Carlyle on the $800 million acquisition of United Components Closed June 20, 2003 Transaction Overview On April 25, 2003, The Carlyle Group entered into a definitive agreement to acquire the vehicle replacement parts business of UIS, Inc., renamed United Components, Inc. (“UCI”), for an aggregate purchase price of $800 million The transaction was financed through: (i) $415 million in Senior Secured Credit Facilities, which included a $65 million revolving credit facility; (ii) $230 million of Senior Subordinated Notes; and (iii) $260 million of cash equity from The Carlyle Group $415,000,000 Senior Credit Facilities Lehman Brothers acted as Financial Advisor to The Carlyle Group and as a Joint Book- Running Manager for UCI’s offering of $230 million of 9 3/8% Senior Subordinated Notes $230,000,000 due 2013 and Joint Lead Arranger on UCI’s $415 million Senior Secured Credit Facility 9 3/8% Senior Subordinated Company Overview Notes due 2013 UCI is uniquely positioned as one of North America’s largest and most diversified companies servicing the vehicle replacement parts market, or the aftermarket The Company designs, manufactures, and distributes filtration products, fuel and cooling Joint Book-Running Manager systems, engine management systems, driveline components, and lighting systems to the automotive, trucking, marine, mining, construction, agricultural and industrial vehicle markets UCI’s customer base consists of the largest and fastest growing companies servicing the aftermarket, including Advance Auto Parts, AutoZone, CARQUEST, Mighty, NAPA and Valvoline This transaction demonstrated Superior Execution Lehman Brothers’ dedication to an The $230 million 9 3/8% Senior Notes offering priced at the tight end of price talk and important financial sponsor client inside pre-roadshow price expectations as well as our ability to successfully The offering was well oversubscribed and the Notes traded strongly on the break, despite a execute on a short timetable significant amount of automotive offerings accessing the high yield market at the same time Demand for the Senior Credit Facilities exceeded supply by more than two times and resulted in a 50 bps reduction to the LIBOR spread 15
  21. 21. Role of An Analyst Role of An Analyst Named one of The Daily Deal’s “Deals of the Year” for 2005 Pending Transaction Summary On November 18, 2005, Cisco Systems announced that it would acquire $6.9 billion Scientific-Atlanta for $6.9 billion ($5.3 billion enterprise value) Under terms of the agreement, Cisco will pay $43.00 per share in cash in exchange for each issued and outstanding share of Scientific-Atlanta common stock has agreed to acquire The per share consideration represents a 3.7% premium to Scientific-Atlanta’s closing price on November 17, 2005 and a 17.4% premium over Scientific- Atlanta’s 30-day average price. Adjusting for rumors about the sale of the company, the consideration represents a premium of 27.9% over Scientific- Atlanta’s pre-leak closing price on October 27, 2005 and a premium of 22.4% The undersigned acted as financial advisor to over its pre-leak 30-day average price the Board of Directors of Scientific-Atlanta in Implied transaction multiples based on consensus estimates(1): 12.0x CY05 this transaction EBITDA and 10.9x CY06 EBITDA; 26.0x CY05 P/E and 22.8x CY06 P/E The transaction is subject to shareholder and regulatory approvals The transaction is expected to close during the first quarter of 2006 ___________________________ 1. Source: IBES consensus estimates as of 11/17/05. 16
  22. 22. Recruiting Process
  23. 23. The Recruiting Process Recruiting Process Timeline of Investment Banking Recruiting for Full-time and Summer Positions All Year Get to know the investment banks – Attend company presentations and Investment Banking Club events – Talk to former summer analysts – Network with alumni Become knowledgeable about the industry and keep up with current business events – Read The Wall Street Journal, The Financial Times, The Economist, etc. Refine your resume to highlight the appropriate areas – Quantitative aptitude – Leadership – Initiative – High academic performance (GPA / ACT or SAT) – Relevant work experience 17
  24. 24. The Recruiting Process Recruiting Process Timeline of Investment Banking Recruiting for Summer Positions (Junior Year) October to January Organize informational interviews – Be professional and well prepared before contacting people – Be proactive Begin preparing for interviews – ‘Vault Guide to Finance Interviews’ (see www.vault.com) Send cover letters and resumes (December) Refine your story and practice mock interviews – Know the three central questions (Why investment banking? Why this firm? Why you?) January and February Interviews 18
  25. 25. The Recruiting Process Recruiting Process Timeline of Investment Banking Recruiting for Full-time Positions (Senior Year) August and September Organize informational interviews – Be professional and well prepared before contacting people – Be proactive Refine your story and practice mock interviews – Know the three central questions (Why investment banking? Why this firm? Why you?) Send cover letters and resumes September to November Interviews 19
  26. 26. The Recruiting Process Recruiting Process What Investment Banks are Looking For Demonstrated excellence (in multiple dimensions) – High academic performance (GPA / ACT or SAT) – Leadership – Self motivator – Communication skills – Team skills Positive attitude / enthusiasm Presence / professionalism Commitment to learning In general, firms are looking for people who have done their homework – Those who understand the industry and can differentiate among the firms 20
  27. 27. The Recruiting Process Recruiting Process Personal Fit Do you have the characteristics to make a good investment banker? Be prepared to relate anecdotes that illustrate these qualities: – Hardworking – Handle stress well / thick skinned – Motivated – Quantitative – Willing to take initiative – Personable – Detail oriented – Flexible – Team player – Sound judgment – Aggressive – Articulate Does your personality fit well with the bank’s culture? – Team oriented culture vs. one that favors individual achievers – Meeting and talking to people at the various banks will give you a good idea – Remember, you will be spending a lot of time with these people so it’s best to find an environment in which you are comfortable 21
  28. 28. The Recruiting Process Recruiting Process Know How to Differentiate Among the Firms, Both for Interviewing and for Your Own Firm Selection Process In addition to obvious geographic and market position characteristics, firms have other differing qualities Know how the firms are internally structured – All have some type of industry and product groups – Every firm has a different approach to group placement Know how the firms perceive themselves – What are their strengths, what are recent significant transactions? – How do they view their own culture? – What are employee demographics? Try to come to some conclusion regarding firm culture and personal fit – Meet as many people as you can 22
  29. 29. Investment Banking Interviews
  30. 30. Investment Banking Interviews Investment Banking Interviews Interview Process and Format Round In-person / phone interview – usually 30 minutes 1 Round Usually 3 or 4 back-to-back interviews with more senior bankers 2 Short case studies may be presented – focused on both technical skills and management / leadership skills The Interview Format Introductory remarks and get to know you (resume review) Why did you choose your school? Why Investment Banking? Why this firm? What is the role of an analyst? Technical questions Wrap-up and Q&A 23
  31. 31. Investment Banking Interviews Investment Banking Interviews Commitment to the Industry and the Firm Be able to provide a succinct answer as to why you want to be an investment banker – Will be different for each person – Your resume should tell much of the story Be familiar with the firm’s history and some of its recent transactions – Demonstrate a broader understanding of the industry Be prepared to answer questions such as – Who else are you talking to? (be specific) – How would you compare firm A with firm B? • Strength of businesses • Culture – Are you interviewing outside of investment banking? Why? Most importantly, show that you have done your homework 24
  32. 32. Investment Banking Interviews Investment Banking Interviews Technical Questions Before the interview, you should be familiar and comfortable with the following concepts: Finance Accounting Discounted Cash Flow Analysis Basic – Free cash flow – Income Statement – Terminal value – Balance Sheet – WACC – Cash Flow Statement Comparable Company Analysis Intermediate – Enterprise vs. equity value multiples – Purchase accounting Comparable Transaction Analysis – Cash EPS – Enterprise vs. equity value multiples, premium analysis – Deferred taxes CAPM Advanced – Pension accounting – Recap accounting – LBO accounting 25
  33. 33. Investment Banking Interviews Investment Banking Interviews Interviewing Tips Resume – Ensure your resume highlights the key competencies required by investment banks – Include only what you are comfortable talking about and know it by heart – Be able to expand upon each bullet point – Be able to clearly explain why you made certain choices (e.g., college, major, internships) – Don’t overlook the additional information section – it can provide good insight into who you are Answering tough or unexpected questions – Take a moment to think about your answer – a well thought out answer is better than a fast answer – Be direct in your answer and stand by your reasoning – Remain composed and balanced Personal impact is important – Body language, composure, volume – Always look the interviewer in the eye and use his / her name – Relax and try to learn from the interview 26
  34. 34. Lehman Brothers Overview
  35. 35. Lehman Brothers Overview Lehman Brothers Overview Who We Are Founded in 1850, Lehman Brothers is one of Wall Street’s premier investment banking firms. Franchise Our market leadership and global presence provide us with access to the most significant issuers and investors around the globe Our strategy is client-driven. Providing the highest level of service to our clients is the core of our Strategy business strategy Future Lehman Brothers’ rich history and tradition provide a strong foundation as we continue to expand our franchise with a focus on high-margin business areas (e.g., M&A, equities, leveraged finance and private equity investing) We operate on a “One Firm” philosophy that emphasizes integration and teamwork across all Culture businesses worldwide. Working together as “One Firm” enables us to deliver a full range of products and services to our clients in a seamless manner Our people are our greatest asset. Lehman Brothers’ professionals are driven to challenge People themselves and take an active role in shaping their careers. They are deeply committed to our business philosophy and motivated to contribute to the Firm’s clients early in their careers 27
  36. 36. Lehman Brothers – Best In Class Independent Investment Bank Lehman Brothers Overview Strong Momentum (1) Employee Base and Ownership (2) Net Revenue Net Income Percentage Ownership Employee Base $mm $mm CAGR=13% $14,176 40% 28,000 $16,000 $4,000 CAGR=13% $3,260 $11,576 30% 21,000 $12,000 $3,000 $2,369 20% 14,000 $7,707 $8,000 $2,000 $1,775 10% 7,000 $4,000 $1,000 0% 0 1994 2005 $0 $0 Employee Base Employee Ownership 2000 2004 2005 2000 2004 2005 Recent Accolades Lehman Brothers: Share Price Performance (1994-Current) “Best Investment Bank” “...Lehman Brothers has Price Volume cemented its position as a top-tier full-service (shares in 000s) investment bank, one that is as confident as an equity house and M&A adviser as it has been in fixed income” $150 25,000 $125 20,000 “...one of the purest investment banks, has become more formidable in almost every market it contests” $100 15,000 “…Lehman Brothers’ Success Illustrates the $75 Benefits of Strong Management” 10,000 $50 “Lehman Brothers: ‘Big-Shot’ Bank of the Year for 5,000 Role in Cingular, Sprint and Kmart Transactions” $25 $0 0 Named IFR U.S. Equity House and Structured 5/2/94 4/18/96 4/3/98 3/22/00 3/8/02 2/24/04 2/10/06 Equity House of the year in 2005 Volume Traded Lehman Brothers Holdings Inc. ___________________________ 1. Source: Company press releases. 2. Employee base reflects acquisition of Neuberger Berman in 2003. 28
  37. 37. Lehman Brothers’ Premier Global Finance Franchise Lehman Brothers Overview Lehman Brothers’ equity and equity-linked franchise continues to garner recognition Performance Recognition Leading Equity Sales and Trading Platform #1 #1 2005 U.S. Equity 2005 NYSE Trading House of the Year #1 #1 2005 NASDAQ Trading “From the integration of debt and equity capital markets, to the #1 #2 inclusion of derivatives, tax and accounting specialists, Lehman Brothers has been a trailblazer in shaping the modern form of capital 2005 Institutional Sales markets in the U.S.” - International Financing Review, December 2005 Leadership Across Products(1) IPOs Common Stock Convertibles 2005 2005 2005 Market Market Market 2005 U.S. Rank Bookrunner Share Rank Bookrunner Share Rank Bookrunner Share Structured Equity House of the Year 1 Citigroup 11.3% 1 Morgan Stanley 12.5% 1 Goldman Sachs 15.4% 2 Goldman Sachs 10.9% 2 Citigroup 12.5% 2 Citigroup 13.5% 3 Morgan Stanley 10.2% 3 Lehman Brothers 10.7% 3 Lehman Brothers 11.7% “From … sales and trading, and ultimately to capital markets solutions, the bank’s measured approach 4 Lehman Brothers 9.4% 4 Goldman Sachs 10.6% 4 JP Morgan 10.7% was a valuable resource in 2005...” 5 Credit Suisse 8.2% 5 Merrill Lynch 9.0% 5 Morgan Stanley 10.4% - International Financing Review, December 2005 ___________________________ 1. Source: Bloomberg. 29
  38. 38. M&A Announced League Tables Lehman Brothers Overview Global Announced M&A Through March 5, 2006 Announced Deals Value ($bil) Rank Market Number of Share Deals Lehman Brothers 247.4 1 41% 41 Goldman Sachs & Co 247.1 2 41% 52 JP Morgan 228.1 3 38% 62 Citigroup 219.0 4 37% 39 Merrill Lynch 203.1 5 34% 50 BNP Paribas SA 144.5 6 24% 19 UBS 139.6 7 23% 53 Deutsche Bank AG 116.8 8 20% 33 Morgan Stanley 115.6 9 19% 29 Evercore Partners 99.9 10 17% 7 Industry Total 598.8 100% 4,717 30
  39. 39. Top 20 Global M&A Announced Transactions in 2006 Lehman Brothers Overview Deal Size Date Announced ($bil) Target Acquiror Region Industry 1 3/5/2006 $82.1 BellSouth Corp AT&T Americas Telecomunications 2 2/21/2006 56.7 Endesa SA E ON AG Europe Natural Resources 3 2/25/2006 44.8 Gaz de France Suez SA Europe Natural Resources 4 1/27/2006 23.8 Arcelor SA Mittal Steel Co NV Europe Industrial 5 2/6/2006 17.5 Portugal Telecom SGPS SA Sonae SGPS SA Europe Telecomunications 6 1/23/2006 17.4 Albertsons Inc Investor Group Americas Consumer/Retail 7 1/25/2006 14.9 BOC Group PLC Linde AG Europe Industrial 8 1/16/2006 12.5 VNU NV Investor Group Europe Media 9 2/27/2006 11.3 KeySpan Corp National Grid PLC Americas Natural Resources 10 2/2/2006 10.8 Banca Nazionale del Lavoro SpA BNP Paribas SA Europe FIG 11 2/3/2006 9.6 KT&G Corp Investor Group Asia Consumer/Retail 12 2/15/2006 9.5 Merrill Lynch Invest Managers BlackRock Inc Americas Financial Institutions 13 2/21/2006 6.2 Australian Gas Light Co Alinta Ltd Asia Natural Resources 14 1/24/2006 6.1 Pixar Walt Disney Americas Media 15 1/31/2006 5.8 TIM Celular SA TIM Participacoes SA Americas Telecomunications 16 2/13/2006 5.5 ZAO Kyivstar GSM Vimpelcom OJSC Europe Telecomunications 17 2/6/2006 5.4 Westinghouse Electric Co LLC Toshiba Corp Americas Technology 18 1/27/2006 5.2 Dofasco Inc ThyssenKrupp AG Americas Industrial 19 1/3/2006 5.0 Engelhard Corp BASF AG Americas Industrial 20 1/10/2006 4.7 GTECH Holdings Lottomatica SpA Americas Technology ___________________________ Note: Shading indicates transactions in which Lehman Brothers acted as Financial Advisor. Lehman clients are in bold. Source: Thomson / SDC and Lehman Brothers. Through 3/5/06. 31
  40. 40. Lehman Brothers Overview Lehman Brothers Overview Investment Banking Summer Analyst Program Duration – 8-week program beginning on two different start dates Group Placement – Driven by Summer Analyst preference and group requirements Training – Training for the summer is one week and includes an accounting and finance overview, comparable company and transaction analysis, financial modeling and use of various software programs – Helps you get to know the firm and review basic tasks you will be asked to perform over the summer – Presentations by the industry and product groups to raise your interest and awareness about what they do 32
  41. 41. Appendices
  42. 42. Basic Finance / Valuation Workshop
  43. 43. Valuation – Introduction Basic Finance / Valuation Workshop The purpose of this workshop is to provide you with Investment Banking finance and valuation basics – Methodologies – Contexts for valuation work – Comparable Company Analysis – Comparable Transaction Analysis – Discounted Cash Flow – Leveraged Buyout Analysis 33
  44. 44. Valuation – Methodologies Basic Finance / Valuation Workshop Comparable Company Analysis (“Comps”) Comparable Transaction Analysis (“Deals”) A public market valuation assigned on the A control transaction valuation assigned on basis of certain key ratios, or “market the basis of multiples of Net Income, EBIT, trading multiples” of Net Income, EBIT, EBITDA or Sales for comparable EBITDA or Sales for comparable public companies which have recently been companies acquired. If the target is public, the premium paid is also relevant Estimated Range of Value for Target Leveraged Buyout Analysis (“LBO”) Discounted Cash Flow Analysis (“DCF”) Value that a financial buyer would pay The value of future free cash flows based upon the maximum amount of debt discounted to the present at an appropriate appropriate for the target company and the discount rate or the weighted average cost required return on private equity funds of capital 34
  45. 45. Illustrative Football Field Analysis Basic Finance / Valuation Workshop Trading Comparables $20.00 $24.00 Transaction Comparables $22.00 $26.00 DCF Analysis $24.00 $27.00 LBO Analysis $22.50 $24.50 $15 $20 $25 $30 $35 35
  46. 46. Contexts for Valuation Work Basic Finance / Valuation Workshop Buy-Side M&A Advising a client on what price to pay Sell-Side M&A Advising a client on how much should be received as consideration for the sale of stock or assets Advising the shareholders as to the fairness, from a financial point of view, of a price to be paid Fairness Opinion or received Advising a client on how to best and most fairly reallocate the value of the company to creditors Restructuring and shareholders Initial Public Offering Determining the potential public market value of a private company Add-on Financing Positioning and timing the sale of client securities to maximize proceeds Share Repurchase Deciding whether a company is undervalued and should repurchase shares 36
  47. 47. Comparable Company Analysis Basic Finance / Valuation Workshop Comparable Company Analysis The Comparable Company Analysis is one of several techniques used to determine a range of values for a specific company, the “target” company The equity of fundamentally similar, or “comparable” companies tends to be valued on a relatively consistent basis by the public markets – Broadly speaking, if Widget Company A competes in the same industry as Widget Company B, using a similar business model, the equity markets are likely to value the two businesses in a relatively consistent manner By analyzing certain key ratios and operating data for each of the companies in the comparable universe, it is possible to estimate how the public equity markets would value the target. Typical benchmarks include multiples of net income and book value (equity value multiples) and multiples of Sales, EBITDA and EBIT (enterprise value multiples). The Comparable Company Analysis is, by its nature, based on an analysis of currently public companies. Accordingly, the valuations received by the comparable universe do not typically reflect: – The premium a buyer must pay for control of a company in an M&A transaction; or – The discount the market may place on shares which are newly introduced in an initial public offering or the discount that is appropriate for a private company 37
  48. 48. Comparable Company Analysis Basic Finance / Valuation Workshop Identifying Your Comparable Company Universe A comparable peer group should possess the same fundamental business and financial attributes such that their public trading values represent a meaningful proxy from which to determine a value range for the target. Relevant attributes include: – Macroeconomic issues – Customers – Industry group – Operations (production, processes, critical – Business model inputs/components) – Geographic location – Financial characteristics (leverage, historical and future growth, margins) – Business mix (products, markets, distribution channels) Refining Your Comparable Company Universe In some cases it will be necessary to limit the universe to a smaller, more focused group of comparables. Factors to consider include: – Size (sales, value) – Growth (organic vs. acquisitions) – Operating history/philosophy – Profitability – Ownership structure Expanding the View of Comparability As a practical matter, in many cases a broad universe of directly comparable companies will not exist. In these situations the parameters of comparability will be widened to assemble a group of companies with sufficiently similar, albeit not ideal, characteristics 38
  49. 49. Comparable Transaction Analysis Basic Finance / Valuation Workshop Comparable Transaction Analysis The “Comparable Transaction Analysis” is based on the premise that the value of a company or an asset can be estimated by analyzing the prices paid by purchasers of ownership interests in reported comparable transactions The analysis provides a history of selected transactions in one particular industry where acquired companies have relatively similar characteristics in terms of economic drivers such as business mix, size, customer base, distribution channels, industry dynamics, etc. The purpose of the comparable transaction analysis is to derive pricing benchmarks based on the selected transactions. It compares the transaction values paid for selected companies to the respective companies’ financial results to determine transaction multiples. Typical benchmarks include multiples of net income and book value (equity value multiples) and multiples of Sales, EBITDA and EBIT (enterprise value multiples) Transaction multiples define the prices that acquirers are willing to pay for companies in that industry in the context of a deal. By applying transaction multiples to financial results of the company being analyzed, it is possible to determine a range of value In contrast to the “Comparable Company Analysis,” this approach is generally based upon multiples paid for control of a company (i.e., includes control premium) 39
  50. 50. Comparable Transaction Analysis Basic Finance / Valuation Workshop Importance of Situational Understanding A good understanding of the background and factors surrounding a transaction is necessary to extract meaningful conclusions from the analysis. In particular, specific deal circumstances are likely to have an impact on prices paid, including: – Nature of transaction (minority stake vs. control, incidence of other contractual arrangements, auction vs. negotiated sale) – Attractiveness of the target company – Relative needs of seller vs. buyer (i.e., a distressed seller may get a lower price) – Identity of acquirer (strategic vs. financial, foreign vs. domestic) – Underlying market conditions (state of M&A, equity, financing markets) 40
  51. 51. Discounted Cash Flow Basic Finance / Valuation Workshop Discounted Cash Flow The DCF analysis is based on the premise that ownership is essentially a claim on the cash flows generated by a firm’s assets The method entails estimating the free cash flows (“FCF”) available to all investors (equity and debt holders) and discounting these cash flows back to the present using an appropriate cost of capital to arrive at a present value for the assets These assets may be financed in a multitude of different ways, but because the returns generated by these assets are available to all providers of capital, and to avoid distortions caused by a particular capital structure, the cash flows should be considered on an unlevered basis (i.e., free from financing considerations) The company’s operational value (prior to adjustments for non-operating assets) can be broken down into two components: – Present Value of free cash flows up to cut point for terminal (or continuing) value calculation; – Present Value of terminal value – Company value = PV(FCF) = ∑ FCFt / (1+r)t + TV / (1+r)n The discount rate r is the Weighted Average Cost of Capital (“WACC”), which reflects the required returns by both debt and equity investors for investments with the same risk profile The company’s operational value must be adjusted for non operating assets such as investments in unrelated subsidiaries, discontinued operations, hidden assets, contingent liabilities, etc. The company’s equity value is obtained by deducting the value of the Company’s financial debt and other non- working capital debt 41
  52. 52. Discounted Cash Flow Basic Finance / Valuation Workshop DCF Process Forecast Unlevered Free Cash Flows Choose Discount Rate Calculate Terminal Value Discount FCFs and Terminal Value Determine Firm Value Subtract Net Debt and Adjust for Non-Operating Assets and Liabilities Determine Equity Value Review Results 42
  53. 53. Leveraged Buyout Analysis Basic Finance / Valuation Workshop What is an LBO? A leveraged buyout (“LBO”) is an acquisition of a company in which a financial sponsor (e.g., private investor, LBO fund) invests a relatively small amount of equity (compared to the total purchase price) and uses leverage (debt or other source of financing) to fund the remainder of the consideration – Debt is repaid with cash flows of the business acquired (conceptually similar to buying a house, renting it out and using the rent to pay the mortgage) LBOs are used in numerous types of transactions and corporate finance situations, including: – Take-privates, in which a public company goes from being owned and traded by a large number of public shareholders to one that is privately held by a small group of investors – Buyouts of a subsidiary or division of a larger company by a group of investors – Management buyouts, in which the acquisition is done by the company’s existing management group, often with the backing of a financial sponsor – Recapitalizations (i.e., re-leveraging the company and paying a large dividend) – Leveraged acquisitions by corporations – JV LBOs, in which corporations and financial sponsors partner together to acquire a business in a leveraged transaction (corporations sometimes contribute assets); in most instances the JV structure permits the debt to be off-balance sheet for the corporation 43
  54. 54. Leveraged Buyout Analysis Basic Finance / Valuation Workshop Leveraged Buyout Analysis LBO Analysis is a valuation methodology that provides an indication of: – The maximum price that a financial investor would be willing to pay for a business on a stand-alone basis (i.e., without any strategic value or synergies) – The credit statistics and potential equity returns for the business at a given price LBO Analysis is used for a number of purposes in various transactions – Estimates the amount a financial buyer would be willing to pay for a business, helps to identify potential LBO opportunities – Estimates the potential equity returns to the business, and provides sensitivity of the returns to growth, leverage, and valuation multiple expansion – Highlights the effects of adding leverage to the business (e.g., recapitalization, take-private) – Illustrates the debt capacity of business (based both on company specific credit criteria and capital market criteria) In LBO Analysis, there are several assumption areas that need to be addressed (Note: it is often easiest to approach them in the following order) – Develop operating projections – Determine maximum leverage and capital structure parameters – Determine the expected method of exit and most likely (and realistic) exit valuation multiples – Establish return parameters – Solve for the maximum price within the given criteria 44
  55. 55. Suggested Reading Material / Resources
  56. 56. Magazines and Newspapers Suggested Reading Material / Resources Wall Street Journal The most widely read business periodical in the world Financial Times A leading global newspaper covering business and specialist financial information Investment Dealers This magazine covers many recent trends on Wall Street and lists recent security issues Digest A leading industry publication which covers what is going on at leading firms in both fixed Financial Trader income, derivatives, currencies, commodities and equities Daily Deal This daily publication covers developments within or impacting the investment banking industry Covers technology industry finance. A good resource if you are interested in investment banking Red Herring in this area 45
  57. 57. Books – Corporate Finance Related Suggested Reading Material / Resources Applied Corp. Finance: Aswath Damodaran A User’s Manual Capital Ideas Peter Bernstein. Modern financial theory Handbook of Frank Fabozzi. The bible for any job involving fixed income sales, trading, underwriting or Fixed Income derivatives Valuation: Measuring Tom Copeland, Tim Koller and Jack Murrin. Potent strategies for measuring and enhancing the and Managing the Value bottom-line value of any company. How to do a valuation of Companies 46

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