Acquirers Anonymous: Seven Steps back to...
Transcript of Acquirers Anonymous: Seven Steps back to...
AcquirersAnonymous:SevenStepsbacktoSobriety…
AswathDamodaran
Aswath Damodaran 84
85
Acquisitionsaregreatfortargetcompaniesbutnotalwaysforacquiringcompanystockholders…
Aswath Damodaran
85
86
Andthelong-termfollowupisnotpositiveeither..
Aswath Damodaran
86
¨ Managersoftenarguethatthemarketisunabletoseethelongtermbenefitsofmergersthattheycanseeatthetimeofthedeal.Iftheyareright,mergersshouldcreatelongtermbenefitstoacquiringfirms.
¨ Theevidencedoesnotsupportthishypothesis:¤ McKinseyandCo.hasexaminedacquisitionprogramsatcompanieson
n Didthereturnoncapitalinvestedinacquisitionsexceedthecostofcapital?n Didtheacquisitionshelptheparentcompaniesoutperformthecompetition?n Halfofallprogramsfailedonetest,andaquarterfailedboth.
¤ Synergyiselusive.KPMGinamorerecentstudyofglobalacquisitionsconcludesthatmostmergers(>80%)fail- themergedcompaniesdoworsethantheirpeergroup.
¤ Alargenumberofacquisitionsthatarereversedwithinfairlyshorttimeperiods.About20%oftheacquisitionsmadebetween1982and1986weredivestedby1988.Instudiesthathavetrackedacquisitionsforlongertimeperiods(tenyearsormore)thedivestiturerateofacquisitionsrisestoalmost50%.
87
Ascarythought…Thediseaseisspreading…IndianfirmsacquiringUStargets– 1999- 2005
Aswath Damodaran
87
Months around takeover
88
Growingthroughacquisitionsseemstobea“loser’sgame”
Aswath Damodaran
88
¨ Firmsthatgrowthroughacquisitionshavegenerallyhadfarmoretroublecreatingvaluethanfirmsthatgrowthroughinternalinvestments.
¨ Ingeneral,acquiringfirmstendto¤ Paytoomuchfortargetfirms¤ Overestimatethevalueof“synergy” and“control”¤ Haveadifficulttimedeliveringthepromisedbenefits
¨ Worsestill,thereseemstobeverylittlelearningbuiltintotheprocess.Thesamemistakesaremadeoverandoveragain,oftenbythesamefirmswiththesameadvisors.
¨ Conclusion:Thereissomethingstructurallywrongwiththeprocessforacquisitionswhichisfeedingintothemistakes.
89
Thesevensinsinacquisitions…
Aswath Damodaran
89
1. RiskTransference:Attributingacquiringcompanyriskcharacteristicstothetargetfirm.
2. Debtsubsidies:Subsidingtargetfirmstockholdersforthestrengthsoftheacquiringfirm.
3. Auto-pilotControl:The“20%controlpremium” andothermyth…
4. ElusiveSynergy:Misidentifyingandmis-valuingsynergy.5. Itsallrelative:Transactionmultiples,exitmultiples…6. Verdictfirst,trialafterwards:Pricefirst,valuationtofollow7. It’snotmyfault:Holdingnooneresponsiblefordelivering
results.
90
Testingsheet
Aswath Damodaran
90
Test Passed/Failed Rationalization
Risk transference
Debt subsidies
Control premium
The value of synergy
Comparables and Exit MultiplesBias
A successful acquisition strategy
91
Letsstartwithatargetfirm
Aswath Damodaran
91
¨ Thetargetfirmhasthefollowingincomestatement:Revenues 100OperatingExpenses 80= OperatingIncome 20Taxes 8=After-taxOI 12
¨ Assumethatthisfirmwillgeneratethisoperatingincomeforever(withnogrowth)andthatthecostofequityforthisfirmis20%.Thefirmhasnodebtoutstanding.Whatisthevalueofthisfirm?
92
Test1:RiskTransference…
Aswath Damodaran
92
¨ Assumethatasanacquiringfirm,youareinamuchsaferbusinessandhaveacostofequityof10%.Whatisthevalueofthetargetfirmtoyou?
93
Lesson1:Don’ttransferyourriskcharacteristicstothetargetfirm
Aswath Damodaran
93
¨ Thecostofequityusedforaninvestmentshouldreflecttheriskoftheinvestmentandnottheriskcharacteristicsoftheinvestorwhoraisedthefunds.
¨ Riskybusinessescannotbecomesafejustbecausethebuyerofthesebusinessesisinasafebusiness.
94
Test2:Cheapdebt?
Aswath Damodaran
94
¨ Assumeasanacquirerthatyouhaveaccesstocheapdebt(at4%)andthatyouplantofundhalftheacquisitionwithdebt.Howmuchwouldyoubewillingtopayforthetargetfirm?
95
Lesson2:Renderuntothetargetfirmthatwhichisthetargetfirm’sbutnotapennymore..
Aswath Damodaran
95
¨ Asanacquiringfirm,itisentirelypossiblethatyoucanborrowmuchmorethanthetargetfirmcanonitsownandatamuchlowerrate.Ifyoubuildthesecharacteristicsintothevaluationofthetargetfirm,youareessentiallytransferringwealthfromyourfirm’sstockholdertothetargetfirm’sstockholders.
¨ Whenvaluingatargetfirm,useacostofcapitalthatreflectsthedebtcapacityandthecostofdebtthatwouldapplytothefirm.
96
Test3:ControlPremiums
Aswath Damodaran
96
¨ Assumethatyouarenowtoldthatitisconventionaltopaya20%premiumforcontrolinacquisitions(backedupbyMergerstat).Howmuchwouldyoubewillingtopayforthetargetfirm?
¨ WouldyouranswerchangeifItoldyouthatyoucanrunthetargetfirmbetterandthatifyoudo,youwillbeabletogeneratea30%pre-taxoperatingmargin(ratherthanthe20%marginthatiscurrentlybeingearned).
¨ Whatifthetargetfirmwereperfectlyrun?
97
Lesson3:Bewareofrulesofthumb…
Aswath Damodaran
97
¨ Valuationisclutteredwithrulesofthumb.Afterpainstakinglyvaluingatargetfirm,usingyourbestestimates,youwillbeoftenbetoldthat¤ Itiscommonpracticetoaddarbitrarypremiumsforbrandname,qualityofmanagement,controletc…
¤ Thesepremiumswillbeoftenbebackedupbydata,studiesandservices.Whattheywillnotrevealistheenormoussamplingbiasinthestudiesandthestandarderrorsintheestimates.
¤ Ifyouhavedoneyourvaluationright,thosepremiumsshouldalreadybeincorporatedinyourestimatedvalue.Payingapremiumwillbedoublecounting.
98
Test4:Synergy….
Aswath Damodaran
98
¨ Assumethatyouaretoldthatthecombinedfirmwillbelessriskythanthetwoindividualfirmsandthatitshouldhavealowercostofcapital(andahighervalue).Isthislikely?
¨ Assumenowthatyouaretoldthattherearepotentialgrowthandcostsavingssynergiesintheacquisition.Wouldthatincreasethevalueofthetargetfirm?
¨ Shouldyoupaythisasapremium?
99
TheValueofSynergy
Aswath Damodaran
99
Synergy is created when two firms are combined and can be either financial or operating
Operating Synergy accrues to the combined firm as Financial Synergy
Higher returns on new investments
More newInvestments
Cost Savings in current operations
Tax BenefitsAdded Debt Capacity Diversification?
Higher ROC
Higher Growth Rate
Higher Reinvestment
Higher Growth RateHigher Margin
Higher Base-year EBIT
Strategic Advantages Economies of Scale
Longer GrowthPeriod
More sustainableexcess returns
Lower taxes on earnings due to - higher depreciaiton- operating loss carryforwards
Higher debt raito and lower cost of capital
May reducecost of equity for private or closely heldfirm
100
ValuingSynergy
Aswath Damodaran
100
(1)thefirmsinvolvedinthemergerarevaluedindependently,bydiscountingexpectedcashflowstoeachfirmattheweightedaveragecostofcapitalforthatfirm.(2)thevalueofthecombinedfirm,withnosynergy,isobtainedbyaddingthevaluesobtainedforeachfirminthefirststep.(3)Theeffectsofsynergyarebuiltintoexpectedgrowthratesandcashflows,andthecombinedfirmisre-valuedwithsynergy.
ValueofSynergy=Valueofthecombinedfirm,withsynergy-Valueofthecombinedfirm,withoutsynergy
101
Synergy- Example1Highergrowthandcostsavings
Aswath Damodaran
101
P&G Gillette Piglet: No Synergy Piglet: SynergyFree Cashflow to Equity $5,864.74 $1,547.50 $7,412.24 $7,569.73 Annual operating expenses reduced by $250 millionGrowth rate for first 5 years 12% 10% 11.58% 12.50% Slighly higher growth rateGrowth rate after five years 4% 4% 4.00% 4.00%Beta 0.90 0.80 0.88 0.88Cost of Equity 7.90% 7.50% 7.81% 7.81% Value of synergyValue of Equity $221,292 $59,878 $281,170 $298,355 $17,185
102
Synergy:Example3TaxBenefits?
Aswath Damodaran
102
¨ AssumethatyouareBestBuy,theelectronicsretailer,andthatyouwouldliketoenterthehardwarecomponentofthemarket.YouhavebeenapproachedbyinvestmentbankersforZenith,whichwhilestillarecognizedbrandname,isonitslastlegsfinancially.Thefirmhasnetoperatinglossesof$2billion.Ifyourtaxrateis36%,estimatethetaxbenefitsfromthisacquisition.
¨ IfBestBuyhadonly$500millionintaxableincome,howwouldyoucomputethetaxbenefits?
¨ IfthemarketvalueofZenithis$800million,wouldyoupaythistaxbenefitasapremiumonthemarketvalue?
103
Lesson4:Don’tpayforbuzzwords
Aswath Damodaran
103
¨ Throughtime,acquirershavealwaysfoundwaysofjustifyingpayingforpremiumsoverestimatedvaluebyusingbuzzwords- synergyinthe1980s,strategicconsiderationsinthe1990sandrealoptionsinthisdecade.
¨ Whileallofthesecanhavevalue,theonusshouldbeonthosepushingfortheacquisitionstoshowthattheydoandnotonthosepushingagainstthemtoshowthattheydonot.
104
Test5:ComparablesandExitMultiples
Aswath Damodaran
104
¨ Nowassumethatyouaretoldthatananalysisofotheracquisitionsrevealsthatacquirershavebeenwillingtopay5timesEBIT..GiventhatyourtargetfirmhasEBITof$20million,wouldyoubewillingtopay$100millionfortheacquisition?
¨ WhatifIestimatetheterminalvalueusinganexitmultipleof5timesEBIT?
¨ Asanadditionalinput,yourinvestmentbankertellsyouthattheacquisitionisaccretive.(YourPEratiois20whereasthePEratioofthetargetisonly10…Therefore,youwillgetajumpinearningspershareaftertheacquisition…)
105
Biasedsamples=Poorresults
Aswath Damodaran
105
¨ Biasedsamplesyieldbiasedresults.Basingwhatyoupayonwhatotheracquirershavepaidisarecipefordisaster.Afterall,weknowthatacquirer,onaverage,paytoomuchforacquisitions.Bymatchingtheirprices,weriskreplicatingtheirmistakes.
¨ Evenwhenweusethepricingmetricsofotherfirmsinthesector,wemaybebasingthepriceswepayonfirmsthatarenottrulycomparable.
¨ Whenweuseexitmultiples,weareassumingthatwhatthemarketispayingforcomparablecompaniestodayiswhatitwillcontinuetopayinthefuture.
106
Lesson5:Don’tbealemming…
Aswath Damodaran
106
¨ Alltoooften,acquisitionsarejustifiedbyusingoneofthefollowingtwoarguments:¤ Everyoneelseinyoursectorisdoingacquisitions.Youhavetodothesametosurvive.
¤ Thevalueofatargetfirmisbaseduponwhatothershavepaidonacquisitions,whichmaybemuchhigherthanwhatyourestimateofvalueforthefirmis.
¨ Withtherightsetofcomparablefirms,youcanjustifyalmostanyprice.
¨ EPSaccretionisameaninglessmeasure.Afterall,buyingancompanywithaPElowerthanyourswillleadmathematicallytoEPSaccretion.
107
Test6:TheCEOreallywantstodothis…ortherearecompetitivepressures…
Aswath Damodaran
107
¨ NowassumethatyouknowthattheCEOoftheacquiringfirmreally,reallywantstodothisacquisitionandthattheinvestmentbankersonbothsideshaveproducedfairnessopinionsthatindicatethatthefirmisworth$100million.Wouldyoubewillingtogoalong?
¨ Nowassumethatyouaretoldthatyourcompetitorsarealldoingacquisitionsandthatifyoudon’tdothem,youwillbeatadisadvantage?Wouldyoubewillingtogoalong?
108
Lesson6:Don’tletegosorinvestmentbankersgetthebetterofcommonsense…
Aswath Damodaran
108
¨ Ifyoudefineyourobjectiveinabiddingwaraswinningtheauctionatanycost,youwillwin.Butbewarethewinner’scurse!
¨ Thepremiumspaidonacquisitionsoftenhavenothingtodowithsynergy,controlorstrategicconsiderations(thoughtheymaybeprovidedasthereasons).TheymayjustreflecttheegosoftheCEOsoftheacquiringfirms.Thereisevidencethat“overconfident”CEOsaremorelikelytomakeacquisitionsandthattheyleaveatrailacrossthefirmsthattheyrun.
¨ Pre-emptiveordefensiveacquisitions,whereyouoverpay,eitherbecauseeveryoneelseisoverpayingorbecauseyouareafraidthatyouwillbeleftbehindifyoudon’tacquirearedangerous.Iftheonlywayyoucanstaycompetitiveinabusinessisbymakingbadinvestments,itmaybebesttothinkaboutgettingoutofthebusiness.
109
Toillustrate:Abaddealismade,andjustifiedbyaccountants&bankers
Aswath Damodaran
110
TheCEOstepsin…anddigsahole…
Aswath Damodaran
110
¨ LeoApothekerwastheCEOofHPatthetimeofthedeal,broughtintoreplaceMarkHurd,thepreviousCEOwhowasforcedtoresignbecauseofa“sex”scandal.
¨ InthefaceofalmostuniversalfeelingthatHPhadpaidtoomuchforAutonomy,Mr. Apotheker addressing a conference at the time of the deal: “We have a pretty rigorous process inside H.P. that we follow for all our acquisitions, which is a D.C.F.-based model,”he said, in a reference to discounted cash flow, a standard valuation methodology. “And we try to take a very conservative view.”
¨ Apotheker added, “Just to make sure everybody understands, Autonomy will be, on Day 1, accretive to H.P….. “Just take it from us. We did that analysis at great length, in great detail, and we feel that we paid a very fair price for Autonomy. And it will give a great return to our shareholders.
111
Ayearlater…HPadmitsamistake…andexplainsit…
112
Test7:Isithopeless?
Aswath Damodaran
112
¨ Theoddsseemtobeclearlyweightedagainstsuccessinacquisitions.Ifyouweretocreateastrategytogrow,baseduponacquisitions,whichofthefollowingoffersyourbestchanceofsuccess?
This OrthisSoleBidder BiddingWarPublictarget PrivatetargetPaywithcash PaywithstockSmalltarget LargetargetCostsynergies Growthsynergies
113
Bettertoloseabiddingwarthantowinone…
Aswath Damodaran
113
Returns in the 40 months before & after bidding warSource: Malmendier, Moretti & Peters (2011)
114
Youarebetteroffbuyingsmallratherthanlargetargets…withcashratherthanstock
Aswath Damodaran
114
115
Andfocusingonprivatefirmsandsubsidiaries,ratherthanpublicfirms…
Aswath Damodaran
115
116
GrowthvsCostSynergies
Aswath Damodaran
116
117
Synergy:Oddsofsuccess
Aswath Damodaran
117
¨ Studiesthathavefocusedonsynergieshaveconcludedthatyouarefarmorelikelytodelivercostsynergiesthangrowthsynergies.
¨ Synergiesthatareconcreteandplannedforatthetimeofthemergeraremorelikelytobedeliveredthanfuzzysynergies.
¨ Synergyismuchmorelikelytoshowupwhensomeoneisheldresponsiblefordeliveringthesynergy.
¨ Youaremorelikelytogetashareofthesynergygainsinanacquisitionwhenyouareasinglebidderthanifyouareoneofmultiplebidders.
118
Lesson7:Foracquisitionstocreatevalue,youhavetostaydisciplined..
Aswath Damodaran
118
1. Ifyouhaveasuccessfulacquisitionstrategy,stayfocusedonthatstrategy.Don’tletsizeorhubrisdriveyouto“expand” thestrategy.
2. Realisticplansfordeliveringsynergyandcontrolhavetobeputinplacebeforethemergeriscompleted.Byrealistic,wehavetomeanthatthemagnitudeofthebenefitshavetobereachableandnotpipedreamsandthatthetimeframeshouldreflecttherealitythatittakesawhilefortwoorganizationstoworkasone.
3. Thebestthingtodoinabiddingwaristodropout.4. Someone(preferablythepersonpushinghardestforthemerger)
shouldbeheldtoaccountfordeliveringthebenefits.5. Thecompensationforinvestmentbankersandothersinvolvedin
thedealshouldbetiedtohowwellthedealworksratherthanforgettingthedealdone.