2019 UBS Investment Banking Challenge - Valuation seminar materials PDF

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CONFIDENTIAL

2019 UBS Investment Banking Challenge Valuation seminar materials

23 April 2019

Agenda

1

Thinking through a potential M&A opportunity

2

What makes M&A financially attractive?

3

Other considerations

Appendix A

Supporting materials

1

Section 1

Thinking through a potential M&A opportunity

Why do companies engage in M&A? A company can engage in M&A activity for a variety of reasons

1

2

3

Business growth •

M&A activity allows a company to grow more rapidly than would otherwise be possible through its existing operations

•

When a company acquires another company, it gains control of the target’s assets, enabling the acquirer to utilise them to maximise performance, market share and cash flows earned

Synergies •

Synergies exist when a company can acquire another company and extract additional value from the ownership of that company. They make the target company more attractive and valuable to the acquiring company than it would be on a stand-alone basis

•

Synergies can be related to—(i) costs (e.g. centralisation of certain activities (such as marketing, accounting and back-office functions); and / or (ii) revenue (e.g. cross-selling opportunities)

Strategic advantages •

A strategic acquisition can often benefit the business operations of the acquiring company by expanding operations to include downstream or upstream functions related to the acquirer’s business

•

An acquisition may also provide diversification benefits (e.g. geographic, product or service, customers, etc.)

•

This often allows exposure to growing markets or businesses which may not be presently within the field of expertise of the acquirer

Is the timing right? •

Relative performance of share price / operations

•

Shareholder sentiment

•

Ability to fund the transaction

What would the merged company look like?

3

Section 2

What makes M&A financially attractive?

Company value—key principles Company value can be expressed in two ways Market capitalisation—represents the equity value of a firm

Market capitalisation

=

Shares outstanding

x

Share price

Enterprise value—represents total firm value (both debt and equity)

Enterprise value

=

Net debt (total debt less cash)

+

Market capitalisation

+

Hybrids (i.e. convertible notes)

5

Valuation methodologies Company valuation is a critical part of M&A advice and there are three principal methodologies …

… however, remember that valuation is an art not a science and no single valuation method will provide the “right” answer

Discounted Cash Flow (DCF) valuation •

Has a strong theoretical basis and is commonly used in specific industries (e.g., mining) and in the valuation of start up projects where near term earnings may be volatile

•

Assumes that the value of a company is equal to the risk adjusted present value of its future cash flows

•

Determines net present value based on free cash flow, terminal value and cost of capital

Relative valuation •

Most appropriate for businesses with a substantial operating history and a consistent earnings trend that is sufficiently stable to be indicative of ongoing earnings potential

•

Involves capitalising earnings based on comparative trading or transaction multiples and gives an indication of value relative to a company’s peers

Leveraged Buyout (LBO) analysis •

Leveraged buyouts are acquisitions funded with a significant proportion of debt (leverage) and little equity

•

LBO analysis determines returns based on company cash flows, acquisition price and optimal leverage

•

It is used almost exclusively for financial sponsor or private equity transactions

6

Presenting valuation analysis—example“football field” [Page message to summarise and refer to key valuation reference point(s)] Current share price: A$1.701

Market valuation

12 months trading range

Fundamental valuation

1.98

2.13

Premium to spot

1.92

Broker price targets

Trading multiples

Capacity to pay

0.94

1.42

2.32

1.68

1.51

2.57

1.89

2.00

DCF with synergies

LBO

2.02

1.73

Transaction multiples

DCF

2.38

1.78

2.26

EV/Jun-18F (LTM) EBITDA2 (x)

Comments

5.3–10.6x

• •

Low: A$[0.94] on [date] High: A$[1.98] on [date]

11.4–12.7x

•

Reflects illustrative [x]–[x]% premium to spot price of A$1.70

10.3–10.8x

• •

Low: [broker A] High: [broker B]

9.6–11.2x

• •

Low: [peer A] High: [peer B]

12.3–13.6x

• •

Low: [transaction A] High: [transaction B]

9.1–10.2x

•

Assumes [x] year DCF, [x]–[x]% WACC and [x]% TGR

10.7–12.1x

• •

Assumes [x] year DCF, [x]–[x]% WACC and [x]% TGR Assumes A$[x] million run-rate synergies from year [x]

12.1–13.7x

•

Assumes [x] year hold period, [x]–[x]% target IRR, [x]x gearing and [x]x exit multiple

Notes: 1 As at [date] 2 Assumes EV / Jun-18F (LTM) EBITDA of A$[x] million

7

What is the financial impact of the acquisition ? Key transaction structure and funding considerations •

Price –

•

•

Australian takeover premia1—acquisitions >A$50m since 2003 45%

premium required to be paid?

Funding –

debt and / or equity?

–

what is our funding capacity?

c.40% 40%

Consideration –

cash and / or shares?

Key shareholder impact analysis considerations

c.35% 35%

•

Earnings per share (EPS)

•

Dividend per share (DPS)

•

Gearing (net debt / EBITDA)

•

Ownership / shareholder register

•

Sensitivities

c.30% 30%

25% One day

One week

Four weeks

Note: 1 Represents average of premium to spot price in time period preceding announcement

8

Example—transaction structure and funding [Page message to set out key transaction structure assumptions] Key assumptions The illustrative impact analysis that follows considers an acquisition of [target] by [acquirer] based on the following assumptions •

A pro forma transaction date of 30 June 2018

•

An illustrative acquisition value of c.A$[459] million –

based on [9.0]x June 2018F EBIT of c.A$[51] million (implies [7.4]x EBITDA of c.A$[62] million)

•

Allowance for transaction costs of A$[6] million

•

Acquisition funded via new debt of A$[312] million—targeting leverage of [2.5]x June 2018F pro forma EBITDA (of A$[171] million)

–

equity of A$[153] million—via rights issue executed at a [7.5]% discount to TERP

Illustrative sources (A$m) Jun-18PF EBITDA Target debt / EBITDA Total debt capacity Less: existing net debt (Jun-18F) New debt capacity Offer price (A$ p / s) NOSH (m) Equity Total

171 2.5x 428 (116) 312 $1.51 101.6 153 465

Illustrative uses (A$m) Acquisition value Allowance for transaction costs Total

459 6 465

Illustrative synergies of c.A$[5] million p.a. phased 25% / 50% / 100% over FY 2019–21F –

A$[5] million costs to achieve incurred over FY 2019–20F

Sensitivity analysis—equity funding requirement (A$m)

153

Target leverage (x)

•

–

Sources and uses

Acquisition value (A$m) and implied multiple 408 434 459 485 510 8.0x 8.5x 9.0x 9.5x 10.0x

1.50x 2.00x 2.50x

276 188 101

302 215 127

328 241 153

354 267 179

380 293 205

2.75x 3.00x

58 14

84 40

110 66

136 92

162 118

9

Example—financial impact of an acquisition [Page message to communicate the financial impact in the key year post transaction] EPS accretion

Net debt / EBITDA

100 +28.2%

64

52

60

71 55

50

41 40 20

Net debt / EBITDA (x)

EPS (cps)

80

3.0x

+28.4%

+28.1%

0 FY19F

FY20F Pre transaction

1.5x 1.0x

0.8x

0.8x 0.2x

0.0x FY18PF

Post transaction

FY19F

Pre transaction

(0.3)x FY21F

FY20F Post transaction

Sensitivity—FY21F EPS accretion

459

485

Acquisition value (A$m) and implied multiple

510

22.5%

8.0x

8.5x

9.0x

9.5x

–

28.9%

27.0%

25.1%

23.3%

2.5

30.6%

28.7%

26.8%

25.0%

23.2%

5.0

32.3%

30.3%

28.4%

26.6%

24.8%

7.5

34.0%

32.0%

30.1%

28.2%

26.4%

10.0

35.7%

33.7%

31.7%

29.8%

28.0%

408

434

459

485

510

10.0x

28.4%

8.0x

8.5x

9.0x

9.5x

10.0x

21.6%

2.00x

29.7%

27.8%

26.1%

24.3%

22.6%

2.25x

30.9%

29.1%

27.2%

25.4%

23.7%

2.50x

32.3%

30.3%

28.4%

26.6%

24.8%

2.75x

33.7%

31.7%

29.7%

27.8%

26.0%

3.00x

35.2%

33.1%

31.1%

29.1%

27.2%

Target leverage

Synergies (A$m)

1.3x 0.9x

0.5x

Acquisition value (A$m) and implied multiple 434

2.1x

2.0x

(0.5x)

FY21F

Sensitivity—FY21F EPS accretion

408

2.5x

2.5x

10

Section 3

Other considerations

Other questions you may need to consider? Key risks and issues •

Target’s shareholder register –

•

•

•

major shareholders may have leverage

Potential interlopers –

•

Tactical considerations

who might we have to compete with?

•

Funding –

timing

–

ability to execute

Regulatory concerns –

competition

–

foreign investments

Approach strategy –

scheme of arrangement vs. takeover?

–

friendly vs. hostile?

–

do we need to conduct due diligence?

What price do we offer? –

start low then increase? knock out bid?

•

Should we acquire a pre-bid stake?

•

How might the target respond? –

who are the key decision-makers and stakeholders?

What is your advice in the short and longer-term?

12

Appendix A

Supporting materials

DCF valuation DCF valuation is the process of discounting future cash flows

Model layout and presentation •

•

•

Models need to be thoughtfully constructed. This is important to ensure model integrity and the ability to convey information to the appropriate users. Criteria for good model design include –

accuracy

–

flexibility

–

ease of understanding

Key components of a model include –

summary page

–

assumptions (e.g., depreciation policy, product price, volume growth, tax rate)

–

NPV outcome

–

NPV sensitivities

–

financial statements (profit and loss, balance sheet, cash flow)

–

detailed calculations

–

identify key variables

–

start from base year and project forward for each variable

Keep it simple!

14

DCF valuation Sensible cash flow forecasts are the key to any DCF valuation

Forecasting future cash flows •

A cash flow forecast should be prepared on an assumed time frame (do not forecast out too long because estimates may become unreliable, generally 10 years is acceptable)

•

Although there are several variations of cash flow that can be used, in order to value a firm as a whole, it is common to use the Free Cash Flow available to both debt and equity holders Free Cash Flow to Firm (FCFF)

Description Discount rate Cash flow calculation

Represents the free cash flow available to all members of the firm including both debt holders and equity holders Weighted average cost of capital (WACC) EBIT - Tax - Increase in working capital - Capex + Depreciation = FCFF

•

Future estimates should be driven by a set of growth and margin assumptions which will help deliver the future EBIT. These drivers should be based on historical, industry and economic data as well as any published management guidance

•

Cash flows are then discounted back to present value using the relevant discount rate (i.e., WACC)

15

DCF valuation Terminal value •

A second component of a DCF valuation is the terminal value

•

This represents the value of the firm in perpetuity and is based around a perpetual growth rate (usually equal to the growth rate of the economy in which the company principally operates)

•

The formula for calculating the terminal value is TV =

•

Final cashflow x (1 + g) WACC – g

The terminal value should then be discounted back using the appropriate discount rate

Calculating value per share •

Combining the present value of future cash flows together with the present value of the terminal value returns the total enterprise value for the firm

•

Deducting the net debt (total debt less cash) from enterprise value allows for a firm’s equity value to be calculated, which in turn can be used to calculate fair value per share

16

DCF valuation

•

The appropriate discount rate will depend upon the rates of return on an investment demanded by the providers of capital (debt or equity)

•

The WACC represents the average cost of borrowing across equity and debt, weighted by the relative amounts of each used in the capital structure of the firm

Cost of debt

A key component of any DCF calculation is the discount rate applied to future cash flows— used to derive the present value of those cashflows in “today’s dollars”

Cost of hybrids

•

Cost of equity

What is WACC? Equity risk premium 5.7% Geared equity beta 0.80–0.90

Target weightings in optimal capital structure Cost of equity: 9.9–10.4%

60%

Cost of debt: 7.5%

25%

Cost of hybrid: 8.0% (assumed interest cost on nonpublicly traded convertible note)

15%

Risk free rate 5.30%

Debt risk premium 2.20%

Depends on particular hybrid instrument

WACC 9.0–9.3%

17

Relative valuation •

Relative valuation is based on the principle of capitalising earnings based on comparable trading or transaction multiples

•

Multiples can be applied to a number of different earnings (or cash flow) measures including EBITDA, EBIT or NPAT. EBITDA often allows a comparison between many different companies as it is not affected by differences in the treatment of depreciation and amortisation or capital structure choices

•

Multiples are an attractive valuation tool because they are easy to compute, however they are static in nature

•

Common multiples include – – –

Enterprise Value / EBITDA (EV / EBITDA) Enterprise Value / EBIT (EV / EBIT) Market Capitalisation / NPAT (P / E)

•

When using a multiple for valuation purposes, care should be taken to ensure that the assumptions and circumstances underlying the multiple are clearly understood

•

It is also important to ensure that companies with comparable operations are selected (quality of comparables is more important than quantity)

Comparable trading or transaction multiple¹ (x) Forward EBITDA ($m) Implied enterprise value ($m) Less net debt ($m) Implied equity value ($m) Shares on issue (m) Implied value per share ($)

Low

Midpoint

High

8.0 100 800 250 550 100 5.5

9.0 100 900 250 650 100 6.5

10.0 100 1,000 250 750 100 7.5

Note 1 Start with a midpoint multiple (i.e., the average EV / EBITDA multiple of a group of comparable companies) and then adjust upwards and downwards to create a valuation range

18

Takeover structures—scheme vs. off-market takeover There are two main ways to implement a “takeover”—an off-market offer and a scheme of arrangement

Off-market takeover offer

Scheme of arrangement

• Not only a “hostile” structure—can be efficient for • Requires Target board support, so only possible agreed deals if “friendly” • Offer to all shareholders with statutory obligation • Bidder and Target sign an implementation under Chapter Six on bidder to proceed agreement to initiate the process which is subject to Court approval • Offer may be conditional, but no self-defeating conditions • ASIC must confirm no objections to scheme Timetable • Timetable regulated by Corporations Act • Timetable largely driven by Corporations Act and Court • Ultimate length subject to acceptances and compuls...