M&A: CONCEPTS AND THEORIES

NEW YORK INSTITUTE OF FINANCE

Sum of the parts companies with several different

business lines

A lot of big companies have multiple product lines. So how do you do something
like that? How do you value something when it's two or three of the businesses are
totally different? Then finding a comparable to a company with three different lines
of business is impossible. So we have to use a different approach.

This is called the sum of the parts approach. So take this company, it has three lines
of business, paper, electronics, and retail. Unfortunately for us, to value this
company we have three times the work. We have to value each division, much like
we discussed earlier.

You have to do discounted cash flow, comparable companies, comparable

acquisitions, buyout approach for each line of business. It's three times the amount
of work, so we're doing a lot of extra effort. What you're going to do is after you've
had that extreme amount of work, you're going to have a table that looks like this
where you value each business line.

Now this is not quite as exact, because if you're evaluating say, a public company
with three business lines, you won't be given all the information on each business
line. You may not be given the full balance sheet. You may even not be given the
net income, only the EBIT or the EBITDA. So again, you're not operating with full
information.

But you're going to add them all up, you add up all the enterprise values, then you
subtract out the parent obligations. So the debt of a conglomerate's usually in the
parent company. The parent company for a conglomerate acts as the bank for the
division.

So usually, the parent is set up like this. And the parent is the one that does the
borrowing and the capital markets. It sells bonds on Wall Street or Hong Kong or
the city.

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And it then takes the money it raises or a stock it issues, and it invests the money
in its divisions. The mother company gives money to the children company. So these
are not financing their activities independently in general.

So we subtract out the parent liabilities. We have an equity value, and then we
divide by the number of shares to come up with a rough value per share. What we
don't show in this chart is the tax liability. If the divisions were to be sold one at a
time that might be considerable. So keep that in mind when you're doing this sort
of valuation.

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