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M&A Fundamentals – Common M&A Terminology

Most professions have their own language riddled with abbreviations and contractions.  M&A is no different.  Listen to two M&A professionals discussing an upcoming M&A transaction and the laymen might think they are speaking a different language!

We thought it might be a fun exercise to create a glossary of common M&A terms.  This is our effort so far.  We will update it as we come across new M&A jargon.  Feel free to bring to our attention any M&A jargon we have missed by commenting on this article.

 

 

ACQUISITION

In this type of M&A transaction the buyer acquires either the shares or the assets of a target company.  In a share sale the newly acquired company will become a subsidiary of the acquiring company.  In an asset sale the M&A transaction may be carried out either by creating a new legal entity to contain the purchased assets, which will become a subsidiary of the buyer, or bringing the assets inside one the acquirer’s existing legal entities.

ASSET BASED VALUATION

A method pf valuing an M&A target that assumes the enterprise value of the business is based on the market value of the net tangible assets it owns.  The textbook definition of an asset valuation is:  “The value of an enterprise is equivalent to the COST of REPLACING its assets with ones of comparable utility.”

ASSET SALE

A type of M&A transaction where the buyer purchases commercial assets (fixed assets, goodwill, employees and working capital) from a limited company rather than buying the company itself.   The phrase could equally apply to the purchase of assets from a partnership or sole trader.  The buyer will usually put the acquired assets into a brand-new limited company formed for the purpose of the acquisition.

BUY-IN MANAGEMENT BUY-OUT (BIMBO)

Often abbreviated as BIMBO.  Yes , really!  This is an M&A transaction where a mixed internal and out-side management team buys a company from the existing owners.

CONSIDERATION

The agreed payment amount for an M&A target.  It can be made up of cash, equity or assets.

COMPARABLE COMPANY ANALYSIS

A process step within valuation by multiples where the M&A professional tries to build a population of listed companies that are similar to an M&A target.  The M&A professional will then calculate ratios (multiples) of various financial metrics to the “market capitalisation” and the “enterprise value” of each of the comparable companies.  Typical financial metrics are income (earnings) cash flow or revenues.  The most commonly used financial metric is the “price / earnings (PE)” ratio.  The ratios can then be used to arrive at the equity value or enterprise value of the M&A target and any other company in the same industry.

CONSOLIDATION

An M&A transaction where a company buys a target in the same line of business with an intention to remove duplicated costs, achieve economies of scale and increase market power.  Consolidation is an important driver of M&A in markets have reached maturity with slower growth and less product innovation.  In many of these markets high levels of M&A lead eventually to oligopoly.

CONTROL PREMIUM

The premium paid to gain control of stock exchange listed company over the traded price of shares before the intended M&A transaction is announced.  Control premiums are typically in the order of 30-40% but can be much higher from high growth companies.

DEAL FEVER

A sickness that grips M&A professionals and executives when getting an M&A transaction to completion overrides all common sense about the actual value or quality of the M&A target.

DEFERRED CONSIDERATION

A consideration structure in which the sellers receives only part of the payment for the M&A target at closing.   The balance is paid in instalments over a defined period often out of the post-closing profits of the target company.  Frequently used in SME to SME M&A transactions, and management buy-outs, where the buyer is unable to raise all the necessary finance at closing.  An earn-out is a special form of deferred consideration.

DUE DILIGENCE

A phase in the M&A process, usually taking place after a selling price for the M&A target has been agreed, where the M&A target opens up its books, records and operations for review.  The buyer will “diligently” check that all is well with the target and that its operations and future prospects have been fairly represented by the sell side of the M&A transaction.

EARN-OUT

A common consideration structure for M&A transactions in high growth industries.  The owners of the M&A target receive limited consideration at the initial closing of the M&A transaction and remain as managers of the M&A target to deliver a growth plan over a defined period.  At the end of the growth plan period the former owners exit with a further payment scaled to the achievement of the growth plan.   Most venture capital M&A transactions are structured as earn-outs with the original owners receiving the bulk of their consideration alongside the venture capital fund at exit.

EBIT

An abbreviation of Earnings Before Interest and Tax.  This phrase is widely used in the M&A community as an alternative to Operating Income or Operating Profit.  It has probably become so widely adopted in M&A circles because it offers such a clear description of the elements of the profit calculation.

EBITDA

An abbreviation of Earnings Before Interest, Tax, Depreciation and Amortization.  This measure is widely used in the M&A community as a proxy for cash flow.  It adds back to operating income (EBIT) the two main non-cash adjustments that appear in an income statement – Depreciation of fixed assets and amortisation of goodwill.

ENTERPRISE VALUE

Enterprise value (EV) measures the total value of a stock exchange listed company in contrast to an equity valuation of an M&A target that only reflects its “market capitalisation”.   It is perhaps easiest to understand enterprise value as a formula:

Enterprise Value = Market Capitalisation + Control Premium + Net Debt.

“Control Premium” is the premium paid to gain control of stock exchange listed company over the traded price of shares before the intended M&A transaction is announced.  “Net Debt” is the total of any short and long term debt owed by the M&A target less any cash balances in the balance sheet.

The consideration for most M&A transactions is based on the Enterprise Value.  Meaningful equity valuations are only available for companies listed on stock exchanges whereas the vast bulk of M&A transactions are for private companies or commercial assets.

FREE OF CASH AND DEBT

A common stipulation in an offer for an M&A target.  “We offer $10 million for ABC incorporated free of cash and debt”.  In a free of cash and debt M&A transaction any debt in the company is paid off either from the consideration or from any positive cash balances inside the M&A target.  The seller receives the net amount after paying off debt for their equity, or the assets of the company, depending on the M&A transaction structure.  Debt in this context is usually either loans from financial institutions or loans from directors, shareholders, or associated companies of the M&A target.  Any positive cash balances left in the company after paying off debt belong to the seller.

FINANCIAL BUYER

A term commonly used to describe private equity and venture capital companies as their M&A activity is primarily to buy companies as an investment and hold them on a relatively short-term basis.   The term implies they buy companies as a financial investment rather than a long-term strategic asset.

FLOTATION

This is the process by which a company is turned from a private company into a new member of a stock exchange. Investors are invited to buy new shares in the company which are immediately tradeable on the stock exchange. The existing owners can simultaneously exit the company for cash or take shares in the new listed company as compensation. This is one of the ways a private equity company or venture capitalist can exit a successful M&A transaction.  Large corporations may also float part of their operations on a stock exchange and create a new listed company in a process called a “spin-off”.

JOINT VENTURE

A special type of M&A transaction merger where two companies pool their operations in a sector into a new jointly owned company.

LEVERAGED BUY-OUT  (LBO)

Often abbreviated as LBO.  This is a type of M&A transaction where a company is bought with a high ratio of third-party debt to the equity capital put in by the buyers.  Leverage occurs because all the gain in the company’s value in the years after the M&A transaction closes accrues to the equity capital.  The providers of the third-party debt receive only interest and an eventual repayment of the face-value of their loan.  Most M&A transactions involving private equity or venture capital are by leveraged buy-out.

LIQUIDATION

A liquidation is when a company ceases to trade, and its assets are sold off.  Any cash raised over outstanding liabilities is distributed to the shareholders.  In M&A a liquidation is a potential exist route from an unsuccessful investment by a financial buyer.

MANAGEMENT BUY-OUT (MBO)

Often abbreviated as MBO.  This is an M&A transaction where the management of a company buys it from the existing owners.

MANAGEMENT BUY-IN (MBI)

Often abbreviated as MBO.  This is an M&A transaction where an out-side management team buys an M&A target company from the existing owners and assumes all the key management roles.

MARKET CAPITALISATION

The cumulative value of all the shares in a listed traded on a stock exchange.  Easiest to understand as the number of listed shares x the selling price of a share on the stock exchange.

MERGER

Is a legal process where the legal identities of two separate companies are joined together into one surviving legal entity.  This may be a brand-new legal entity or one of the existing legal entities.

NET DEBT

The total of any short and long term debt owed by the M&A target less any cash balances in its balance sheet.

POST-MERGER INTEGRATION

In the USA often called post-acquisition integration this is the process by which the acquiring company in an M&A transaction integrates the business activities of the target into its own operations.

PRECEDENT TRANSACTION

A precedent transaction is the sale of a company similar to the M&A target that an M&A professional is trying to value.  If sufficient information is available work out the ratio of income, or cash flow or sales to the price paid for the precedent M&A transaction these ratios can be used to value an M&A target.  A relevant precedent transaction is in many ways the gold standard of M&A valuation. It shows the price paid by other M&A professionals for a similar M&A target in an M&A transaction.

PRICE EARNINGS (PE) RATIO

The the total annual net income (net profit, net earnings) of a listed company divided by the numbers of shares traded on the stock exchange.  You could also think about this as Income After Tax / Market Capitalisation.

PUBLIC TO PRIVATE

An M&A transaction where a company traded on a stock exchange is bought from the existing shareholders and taken into private ownership.  This type of M&A transaction is particularly associated with private equity companies who may take the M&A target private for in a leveraged transaction, improve profitability and then sell a few years later at a profit.

SECONDARY BUY-OUT

This is an M&A transaction when a private equity or venture capital company sells a company it has invested to another private equity or venture capital company.  The business model of this type of financial investor requires an early exit, ideally within 5 years, to achieve the required financial return.  If the investment needs longer to achieve its technical or financial objectives, it can be sold to another financial investor to start another 5 year clock.

SHARE SALE

A type of M&A transaction where the buyer purchases the shares of a limited company and takes control of any commercial operations owned by the company.

STRATEGIC BUYER

An corporate M&A buyer who intends to keep the M&A target for the indefinite future and exert long-term operational control.   Contrasts with a “financial buyer” for whom an M&A target is a relatively short term investment.

SPIN-OFF

A form of company flotation where a corporation separates commercial assets from its existing operations and floats them on stock exchange as a new listed business.   This usually happens where executives and shareholders perceive the commercial assets are undervalued as part of the larger corporation.  In these circumstances a new listing has the potential to increase overall shareholder value.

STRATEGIC VALUE

Perhaps the most dangerous phrase in M&A!   Too often strategic value is some generalised “strategic” aspiration used to justify an otherwise unviable M&A transaction.  M&A deal teams in the heat of “deal fever” can often fall into this trap.  For successful M&A strategic value has to be the outcome of a discounted value calculation that clearly shows the steps that will be taken to increase the  value of the M&A target under the new owner’s control.  Each of the steps must be linked to an action that is quantifiable and realistically deliverable.

TRADE SALE

An M&A transaction where the target is sold to a corporate acquirer in a related line of business.   This type of acquirer may also be referred to as a “strategic buyer”.   Trade sale is a common phrase used to describe a transaction in both private company sales and M&A exit transactions by private equity and venture capital investors.  Alternative exits might be management-buy-out, liquidation, flotation or secondary buy-out in the case of financial buyers.

VENTURE CAPITAL

Venture capitalists are investors who specialise in M&A projects with a substantial element of risk. Typically, they invest in new or rapidly expanding business.  Many venture capitalists focus on technology-based businesses.

 

 

About The Merger Training Institute

We provide practical, in-career mergers and acquisitions training for boards, executives and professionals in global corporations.

Our short, intense M&A courses are designed for executives needing to understand best M&A practice or adding new M&A responsibilities to their existing roles.

The courses are taught by tutors with hands-on M&A experience gained as part of corporate management teams. As well as being academically rigorous they are rich with case studies and real-world examples based on our tutor’s practical mergers and acquisitions experience.

Our course participants come from a wide range of industries and roles including general management, business development, strategy, marketing, finance, human resources, operations and legal.

 

Our Mergers and Acquisitions Training Courses

Core Mergers and Acquisitions Skills Training Course

The Core Mergers and Acquisitions Skills programme (M&A training course) is a three- day programme that teaches all the commercial and technical skills you will need to confidently lead or support a successful M&A transaction.

Our expert tutors guide you through the M&A process from strategy and deal origination to valuation, due diligence, deal structuring, contract negotiation and post-merger integration.

M&A Due Diligence Training Course

The M&A Due Diligence Training Course is a two-day programme that offering a solid grounding in the techniques used by some of the world’s most successful companies to assess risks, evaluate synergies and confirm the strategic fit of an M&A target. The course is designed specifically for executives involved in corporate M&A.

Successful Post-Merger Integration Training Course

The Successful Post-Merger Integration Training Course is a two-day programme that provides a solid grounding in the post-merger integration techniques used by some of the world’s most successful companies to deliver value from their M&A transactions.

Across the two days of the course you move from the key decisions made in the pre-deal phase, through the critical first 100 days and on to full synergy delivery. The course covers the post-merger integration issues most likely to arise in each business function and the most important business processes.

Advanced Business Valuation Training Course

The Advanced Business Valuation training course is a two-day expert level business valuation training course that teaches participants how to prepare robust business valuations in the context of a corporate M&A transaction.

Our expert tutors move you past the stage of plugging numbers into a standard spreadsheet and help you explore how risk, synergies and the quality of the target company might impact its value.

 


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