DCF_Valuation_2011 class 8-10_BSBA (7)

# DCF_Valuation_2011 class 8-10_BSBA (7) - 1 BA599 Mergers...

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BA599 – Mergers & Acquisitions BSBA – Spring 2011 1 Prof. David Ravenscraft Kenan-Flagler Business School University of North Carolina Class 8-10: DCF Analysis

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2 DCF Valuation n Just synergies (Kraft Cadbury and Adams) n Parts of DCF n Cash flows n Terminal value n Discount rate – Adjusted Present Value (APV) vs. WACC n Whole company valuation spreadsheet n Whole company valuation spreadsheet with synergies n Summary Valuation spreadsheet
3 Just Synergy DCF Valuation

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4 Discounted Cash Flow Analysis: Basics n Present Discounted Value of a Project or Firm is: CF1 + CF2 + CF3 + CF4 + CF5 + TV (1+r) (1+r)2 (1+r)3 (1+r)4 (1+r)5 (1+r)5 n To perform PDV just need data on 3 items: ¨ Cash Flows (CF) in each year ¨ Discount Rate r (APV vs WACC) ¨ Terminal Growth Rate which together with CF5 yields Terminal Value (TV) n Recall TV = (FCF in terminal year*(1+g))/ (discount rate -g)
5 Just Synergy Estimation Example n Kraft announced annual pre-tax cost synergies of \$675 million by 2013. Assume a tax rate of 35%. Assume 2010 is year 0 (acquisition year). n Assume Kraft gets 1/3 of synergies in 2011 and 2/3 in 2012. n Kraft announced that it will cost \$1.3 billion over 3 years to obtain these synergies. Assume 1/3 of this cost occurs in 2010, 2011, and 2012. n Assume a discount rate of 10% n Cadbury traded at 578 pence the day before the announced acquisition. Kraft’s initial offer was 745 pence and their final offer was 850 pence. n Cadbury had about 1,575 common shares outstanding n The US Dollar to British Pound exchange rate was 1.617 n With these numbers (which are often available for larger deals) you can estimate the present discounted value of synergies that Kraft claims for its acquisition of Cadbury. Note, convert your synergies estimate to share price by dividing the DCF value by # shares & add it to 578 pence n Note, in 2013 we are in steady state (\$675 million annual synergies), so use that year as the terminal year and keep it simple. n Design your own Excel file to calculate if Kraft overpaid

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6 Key Learning from Synergy Spreadsheet n The right way to do merger valuation is to estimate the synergies directly. This forces you to face the 2 key questions in merger valuation: ¨ How large are the synergies? ¨ How long will they last? n Since many companies announce synergies (especially in cost saving mergers), it is easy to check the maximum premium they should pay. Remember announced synergies usually mean cost savings n It is ok to back out answer, I need to bid Z, so how much synergies must we create to get to Z. Key is that level synergy attainable. n Sensitivity tests are important, but use reason n See, “Just Synergies Valuation Adams”
Just synergy part of assignment 4 n For the just synergy part of assignment 4, we will use Microsoft’s failed takeover of Yahoo! as a comparable synergy deal. Microsoft announced a \$1 billion a year expected cost saving from its proposed hostile takeover of Yahoo!. Assume Microsoft estimated an additional \$1 billion of synergies from increased firm growth. Assume that AT&T can get similar synergies through its

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