CLASS OUTLINE

• Welcome to Valuation class

• Please allow 5 min login

• Part A: VALUATIONS
– Principles & Examples

• Part B: M&A
– Principles & Examples
Thought of the day |
Reflect
B HUMA CA(SA)
Open Rubric
FINANCIAL MANAGEMENT
MAC4862
CTA_CLASSES 2023
“FINDING BALANCE”

• 50% of the work

(done – Finance)

• REFLECT

• CONSISTENT

B HUMA CA(SA)
 LEGENDS: ICONS

Principle
Example/ Reflect/ Self Study
2
Question Review
Remember

B HUMA CA(SA)
 Overview
Strategy Investing Financing Dividend
Decisions Decisions Decisions Decisions
Sources of How much Dividend
Strategic planning Capital Budgeting
Finance should we pay?

Risk Management Business Capital Structure

How Often do we
Valuations pay the dividend?

Strategy Portfolio In what form? Cash,

Cost of Capital
Implementation Management Shares or Both?

Mergers and How do we deal

Strategy Evaluation Leasing
Acquisitions with excess cash?

Risk and Return & Time Value of Working Capital Management &
Money Financing
Treasury Function & Management Tools Financial Information
RisMwD Analysis
Adapted from First Principles by Prof Aswath Damodaran
http://people.stern.nyu.edu/adamodar/pdfiles/acf4E/presentations/mgtobj.pdf
VALUATIONS
Chapter 11 (Textbook both 8th / 9th Edition)
Learning Unit 10 (TUT102)

B HUMA CA(SA)
 VALUATIONS: PRIOR KNOWLEDGE

• Cost of Capital (Chapter 4)

• Capital Investment Appraisal (Chapter 6)

• Sources and forms of Financing (Chapter 7)

B HUMA CA(SA)
 OBJECTIVES

• ID & Explain different types of values

• Financial reporting v Business Valuation
• Valuations
– Approaches
– Methodologies together with models/methods
– Types of valuation premiums and discounts
• Critically review the different methods of
valuation
B HUMA CA(SA)
 Valuations
Methods / Tools to use:
Gordon Growth Model
HOW TO VALUE Choose appropriate valuation method Net asset value
Market capitalisation
Earnings multiple
Free cash flow

Calculations:
HOW MUCH Establish the value of the business Formula applied

Payment:
HOW TO PAY Establish the payment method
Cash vs Shares

9
 VALUATIONS
FINANCIAL
Types REPORTING v APPROACHES
BUSINESS VAL
Financial Reporting
1. Cost Considers all different types of Replacement
values
2. Market Value Recognition criteria used cost (Value of
3. Fair value Recorded after the facts asset)
Uses bottom up approach

Business Valuation
4. Intrinsic Value Use fair value market Market
5. Market
Capitalisation
Considers all components of
business comparable
6. Liquidation value
Before a transaction (Price Multiple)
Top down approach

Income (DCF)
B HUMA CA(SA)
 VALUATIONS

FACTORS
Methods &
Methodologies AFFECTING VALUE
Models
OF BUSINESS

Price of recent investment Value, risk & return

Earnings Multiple
Industry valuation Growth & return
Market Price Multiple
benchmark
Multiples
Gordon’s Growth Model Investments

Discounted CF from
investment Business Model
FCF
Discounted CF of underlying Business Vehicle
business enterprise EVA
Listed shares
Net assets

B HUMA CA(SA)
 VALUATION METHEDOLOGIES
Valuation Methodologies Valuation Methods and Models

The price paid for a recent investment could

provide a good starting point to value an
Price of recent investment investment in a similar enterprise (information
is hard to come by).

Industry valuation benchmark Earnings multiples

Earnings multiples
Multiples
Market price multiples
Gordon dividend growth model
Discounted cash flows
Free cash flow
Book value
Net assets Market value
Liquidation value

B HUMA CA(SA)
 VALUATIONS
Other Valuation Valuation
Matters Techniques
• Value 100% equity shdrs.
= Price of recent invest (excluding transaction costs) X
𝟏𝟏𝟏𝟏𝟏𝟏𝟏

Minority • Post-money val

% 𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔 𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐 𝒊𝒊𝒊𝒊 𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓 𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊

Price
discount = New invest X % 𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔
𝑻𝑻𝑻𝑻𝑻𝑻𝑻𝑻𝑻𝑻 𝒑𝒑𝒑𝒑𝒑𝒑𝒑𝒑 𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊 𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔 𝒐𝒐/𝒔𝒔𝒔𝒔
𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐 𝒊𝒊𝒊𝒊 𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓 𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊

• Pre-money val
Less control = Price of recent invest (excluding transaction costs) X
𝟏𝟏𝟏𝟏𝟏𝟏𝟏
% 𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔 𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐𝒐 𝒊𝒊𝒊𝒊 𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓𝒓 𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊𝒊

Control
Earnings
Premium
Use – Majority/Minority shards.
recommended
rates not more
Control
than 20% Value = Maintainable earnings for a
single year X Adjusted earnings
Marketability multiple
discount
% of influence B HUMA CA(SA)
 Types

Earnings Multiple •
•
P/E Multiple
Enterprise
value/EBITDA Multiple
Maintainable earnings
give us an amount of
• Enterprise value/EBIT
earnings that will be Adjusted multiple
made by the company Maintainable
being valued (forever) earnings
growing at the Earnings
terminal growth rate multiple

Trailing PE v PE ratio similar / Trailing PE Multiple

Adjust with risk
Forward PE ratio -ve: Increase risk [less cash])
MVIC/EBITDA +ve: Decrease risk [innovative]

Inverse
Adjustments Earnings Yield EY%
Adjust risk
+ve: Increase risk
-ve: Decrease risk
Given EY (%)convert to get PE Ratio
1/EY%
Trends
B HUMA CA(SA)
 EARNINGS MULTIPLE

Maintainable Maintainable Maintainable

Earnings - Trailing P/E Earnings Earnings
multiple
Adjustments Trends
- Forward
MVIC/EBITDA

Trailing P/E multiple • Exceptional items Maintainable Earnings

Historical maintainable
earnings = 1 yr.
Forward MVIC/EBITDA
Forecast maintainable
EBITDA = 1yr.
• Adjust of expenditure to
realistic e.g. management fees
• Non-recurring items
• Discounted business operations
• Expenses not related to the
main business [Valued
separately]
• Errors
• Adj. current tax rates
Upward trend = latest
earnings
Downward trend = latest
earnings [G/C questionable]
No clear trend = Weighted
average

B HUMA CA(SA)
B HUMA CA(SA)
 EARNINGS
MULTIPLE

B HUMA CA(SA)
B HUMA CA(SA)
B HUMA CA(SA)
 P/E Multiple
- Start use historical info
- Start from “Revenue”
Determine Maintainable Earnings for UMA
Adjust for:
- Abnormal/Non recurring items
- Income from non-trading assets: profit
on sale of asset
- Costs paid not relating to business
activities: entertainment
- Expenses not at arm’s length
- Changes in accounting policies:
depreciation
- Errors: Profit on sale of assets

B HUMA CA(SA)
B HUMA CA(SA)
B HUMA CA(SA)
B HUMA CA(SA)
B HUMA CA(SA)
 EXAMPLE: Trailing P/E multiple
- Forward MVIC/EBITDA_TUT103 Q5

B HUMA CA(SA)
 EXAMPLE: Trailing P/E multiple
- Forward MVIC/EBITDA_TUT103 Q5

B HUMA CA(SA)
 Depending on your approach
1. Considering existing all
years maintainable earning
2. Trend unclear
Appropriate: WAM

OR

2. However looking since

earnings will normalise
from 2016 therefore use
last maintainable earnings

3. Cater for the risks

Range 4-8

B HUMA CA(SA)
 Solution opted for the
2nd option

Looking from 2015

forward  the trend is
upward therefore use
last maintainable
earnings

Catered for the risks

Range 4-8

B HUMA CA(SA)
EXAMPLE: Adjustments

B HUMA CA(SA)
 EXAMPLE: TRENDS

All earnings figures are free from the effects of exceptional events, non-recurring
items, and discontinued business. All expenditure included in the reported earnings
is at realistic levels (e.g. market-related management fees were charged).
Furthermore, all income and expenditure relates only to the main business
operations.

Required:
Provide an estimate of maintainable earnings for all the 3 companies

B HUMA CA(SA)
 EXAMPLE: TRENDS

Maintainable Earnings
Upward trend = latest earnings
Downward trend = latest earnings
No clear trend = Weighted average

B HUMA CA(SA)
EXAMPLE: TRENDS_TUT103 Q3

B HUMA CA(SA)
 VALUATIONS
Market Price Dividend Free Cash
Multiple Growth Model Flow
• Reasonable Test
• Entity experiencing temp
losses

Price/Sales multiple
𝑫𝑫𝑫𝑫
P=
𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪 𝒇𝒇𝒇𝒇𝒇𝒇𝒇𝒇 𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎 𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄
=
𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨 𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺
FCF using rate WACC
=
OR
𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪 𝒎𝒎𝒎𝒎𝒎𝒎 𝒗𝒗𝒗𝒗𝒗𝒗.𝒐𝒐𝒐𝒐 𝟏𝟏𝟏𝟏𝟏𝟏𝟏 𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆 𝑲𝑲𝑲𝑲 −𝒈𝒈
𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨 𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺

MVIC/Sales multiple Shareholder entitled to Adjusted PV – Ke used

=
𝑴𝑴𝑴𝑴 𝒐𝒐𝒐𝒐 𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰𝑰 𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪 future dividend as a discount
𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨𝑨 𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺𝑺

Price/Book multiple
= Dividend grow at a constant
𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪𝑪 𝒇𝒇𝒇𝒇𝒇𝒇𝒇𝒇 𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎𝒎 𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄𝒄 rate
𝑪𝑪𝑪𝑪 𝑩𝑩𝑩𝑩𝑩𝑩𝑩𝑩 𝒗𝒗𝒗𝒗𝒗𝒗𝒗𝒗𝒗𝒗 𝒐𝒐𝒐𝒐 𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔𝒔 𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆𝒆
B HUMA CA(SA)
 DIVIDEND GROWTH MODEL

Revised – Example
ABC recently paid a dividend of 60 cents share and has
100 000 shares in issue. The shareholders required rate
of return is 18% and directors believe that will grow by
12% for the next two year and in year 3 grow by 8%
indefinitely

Calculate the value of a 25% shareholding in ABC

B HUMA CA(SA)
 DIVIDEND GROWTH MODEL

ABC recently paid a dividend of 60 cents share and

has 100 000 shares in issue. The shareholders
required rate of return is 18% and directors believe
that will grow by 12% for the next two year and in
year 3 grow by 8% indefinitely
What is the next expected
dividend?
60 cents increase by 12% x
by no of issued shares..2
years

Thereafter, 8%

B HUMA CA(SA)
 DIVIDEND GROWTH MODEL
Revised – Example
ABC recently paid a dividend of 60
5 minutes
cents share and has 100 000 shares in
issue. The shareholders required rate
Outline
of return is 18% and directors believe
that will grow by 12% for the next two
your
year and in year 3 grow by 8%
indefinitely
structure
&
Calculate the value of a 25%
shareholding in ABC Answer
B HUMA CA(SA)
 Revised – Example
ABC recently paid a dividend of 60 cents share and has 100 000 shares in
issue. The shareholders required rate of return is 18% and directors believe
that will grow by 12% for the next two year and in year 3 grow by 8%
indefinitely

Calculate the value of a 25% shareholding in ABC

YR1: 0,60 x 100 000 YR2: 67 200 x 1,12 YR3: constant rate 8%
= 60 000 x 1,12 = 75 264 𝑫𝑫𝑫𝑫
=67 200
𝑲𝑲𝑲𝑲 − 𝒈𝒈
(75 264 x1,08)/ 18% - 8%
81 285,12/ (0,18 – 0,08)
=812 851

CF1 = 67 200 CF2 = 75 264 CF3 = 812 851

i= 18
COMP NPV= 605 728 X 25%=151 432 B HUMA CA(SA)
 VALUATIONS

EVA/MVA NAV
EVA = NOPLAT
– (Invested F:Assets less
capital X Liabilities
WACC)

MVA= PV of
Linked to
expected EVA
liquidation
for future
[voluntary]
years @ WACC
B HUMA CA(SA)
VALUATION – FREE CASH FLOW

B HUMA CA(SA)
 FREE CASH FLOW WHEN NP GIVEN:
EXPENSES – ADD BACK
TO PROFIT / DEDUCT
FROM LOSS (INCOME
VICE VERSA)

NON-CASH
• ID BASE • EXPENSES (Finance costs,
interest expenses)– ADD
YR(0) • NP - GIVEN BACK TO PROFIT /
DEDUCT FROM LOSS
(INCOME: investment
• NP – GIVEN? • NP – NOT income : deduct profit/
loss add)
GIVEN FINANCE
CASH FLOWS
&INVESTMENT
OPERATING FREE
CASH FLOW

B HUMA CA(SA)
 Calculation - Cash flows
3. Adjust for
1. Start 2. Adjust for
financing
REV/ PBT non-cash
and
investments
/ NP transactions (valued
Starnet: Given – Expenses comprise
of 15% non-cash flow items
separately)

5. Non- 6. Determine
4. Working
current Terminal
capital
Assets value
movements
Movement
Inventory/Debtors C/F expected to grow at
(Decrease) – cash outflow
Increase – (outflow) / decrease – inflow certain rate
Increase – cash inflow

Creditors:
Increase – inflow / decrease – (outflow) B HUMA CA(SA)
 Tax cash flows
Details provided – Before/ After tax
Before – perform tax calculation Profit before tax
After – consider tax impact of adjustments XX
Income Adjust accounting
Tax profit

Capital
cash
flows
Taxable income X 27%

Operating
Operating CF – Taxable and cash
should be after tax flows
NB: no tax calculated on
movements on W/C

B HUMA CA(SA)
 FREE CASH FLOW CF(1+g)
Tvalue =
Debtors – increase WACC – g
= goods sold on
credit NO CASH
RECEIVED

• INCREASE/ DECREASE NON-CURRENT

• INCREASE IN ASSET = ASSETS • Cash flows
DEDUCT • OPENING BAL expected to
• INCREASE IN
CREDITORS = ADD • Less: DEPRECIATION infinity
• Less: CLOSING BAL • Use formula
WORKING CAPITAL
TERMINAL VALUE

Creditors –
increase = Bought
on credit NO
CASH PAID
B HUMA CA(SA)
 Working Capital – Different treatments
Working capital
- Is the change in inventory, receivables, payables
- For each line item consider “what is the cash movement – i.e. how much if cash is an inflow or
outflow
Change in inventory (Increase) cash outflow Decrease - cash inflow
Change in receivables (Increase) cash outflow Decrease - cash inflow
Change in payables Increase – cash inflow (Decrease) cash outflow
Change in cash (what you
Increase – cash inflow (Decrease) cash outflow
reflect det CFC)

Movement in Non-current assets [Capital expenditure]

Opening balance
Less: depreciation (Decrease) cash outflow Increase cash inflow
Closing balance

B HUMA CA(SA)
 FACE VIEW OF FCF
DETAILS R’000
OPERATING PROFIT XXX
NON-CASH ADJUSTMENTS [E.g. depreciation] X / (X)
EBITDA
WORKING CAPITAL X/(X)
CASH TAX (X)
CAPEX (X)
NON-CURRENT ASSETS (Opening BAL less Depreciation less X/(X)
Closing BAL)
OPERATING FREE CASH FLOW
ADD: TERMINAL VALUE X
NET CASH FLOWS X

CALCULATE NPV (USE CALCULATOR – Cf0, Cf1, Cf2….) using

discount rate
B HUMA CA(SA)
 Net Present Value
Discount the
cash flow
Discount (easier with
factor the
calculator)

Using WACC – it i = WACC

takes into account Cfi – input all cash
the capital Go and revise flows per year
structure of the your WACC (don’t forget
company and the calculations terminal value if
appropriate risk it’s applicable)
Compute = NPV

B HUMA CA(SA)
Adjustment – NPV (Value of Operating Assets)
Not included but MV of the debt
MV of the
valued separately (Deduct)
investment (Added)
Excess Valuation of Valuation of
cash investments Long term
debt

Determine Calculate per

Preference Marketability shareholding
shares (Trigger – Pvt %
co)
MV of the pref.
(Deduct)

B HUMA CA(SA)
 FACE VIEW OF FCF
DETAILS R’000
NPV [Value of Operating Assets] XXX
Adjusted for
Market value of debt (X)
Non-Operating assets XX
Marketability discount (%) (X)

Value XXX
NOTE: Is the questions asking for 100% or for a certain %

B HUMA CA(SA)
 Examples: Pre-class

Please work through the following questions:

Starnet Q7 part b

Shoppers Q13 part a & b

Ukuzwa Q 17 part b & c

Examples/
Questions
B HUMA CA(SA)
Starnet Q7 part b

B HUMA CA(SA)
Starnet Q7 part b
b(i)
- What was the basis of
calculating the value
- Rate used to discount the
C/Fs
b(ii) FCF 100% of Selmor

b(iii) Discussion question address

1.Specific
2. Generic synergies

B HUMA CA(SA)
 FCF
- Start with using Forecasted figures
- Start from “GP”
- Adjust “non-cash expenses”
- Cash tax
- Working capital movement : inventory
& receivable ; and payable
- Movement in non-current assets
[OBAL less depn less CBAL]
- Determine Continuing Value [g=4%,
WACC = 18%]
Value of operations
Add: Cash
Add: Investment (separately valued)
Less: MV of debt
= 100% VALUE [MIN VALUE]
We are using a FCFF method of valuation (a majority
valuation method) to value a majority holding
interest (100%), thus no adjustment for control is
applied.

B HUMA CA(SA)
Cal 1

B HUMA CA(SA)
Shoppers Q13 part a & b

B HUMA CA(SA)
QUESTION - INFORMATION

B HUMA CA(SA)
QUESTION - INFORMATION
FCF
- Start with using Forecasted
figures
- Start from “NP”
- Adjust “non-cash expenses”
depreciation
- Cash tax
- Working capital movement :
inventory & receivable ; and
payable
- Movement in non-current
assets [OBAL less depn less
CBAL]
- Determine Continuing Value
[g=4%, WACC = 18%]
Value of operations
Add: Cash
Add: Investment (separately
valued)
Less: MV of debt [From part a]
= 100% VALUE [MIN VALUE]
Less: Marketability (5%) –
GreatBuys is a pvt co
Fair market value
B HUMA CA(SA) X 55%
 QUESTION - INFORMATION
Finance costs
Starting pt NP …reverse in
determining FCFF.
- Should be excluded
- Start from “NP” ALREADY
DEDUCTED
- Therefore, to exclude we will add
back
- Details provided
- PV=65; N=5; PMT=(18,588); FV=O
COMP I/YR=
- 1 AMORT – 2018 [ALREADY
PAID]
- 2 AMORT – 2019 [USE] =INT: 7,29
- 3 AMORT – 2020 = INT: 5,79
- 4 AMORT – 2021 = INT: 4,09
Other info - 5 AMORT – 2022 = INT: 2,17
- Det: WACC [CAPM]; Rf=9,26; Market risk premium (already - Account for tax of the finance
A/c for Rf] costs
- Continuing value [g=9%; WACC from above cal.
B HUMA CA(SA)
 - Adjust “non-cash
expenses” depreciation

- Reverse finance costs

- FCFF is EBITDA
less Capex –
Change in WC –
Cash tax“

- No adjustment required
for interest income
- FCFF is using
maintainable
CF1 CF2 CF3 earning EBITDA

B HUMA CA(SA)
 Value of operations
Add: Cash
Add: Investment (separately valued)
Less: MV of debt [From part a]
= 100% VALUE [MIN VALUE]
Less: Marketability (5%)
Fair market value
X 55%
Marketability discount
- valuing an unlisted entity
- This discount is used to account for the
restricted transfer of share or lack of liquidity of
an investment.
- This is because the private shares cannot be
easily sold to a market (unlike listed companies’
shares that can be bought or sold easily through
a broker or via online share trading).

B HUMA CA(SA)
 WACC CALCULATE -ALTERNATIVE

• Information provided CAPM

– Details for cal. Ke use Ke = Rf +B(Rm- Rf)
CAPM =9,26% + 1,2(6%)
= 16,46%
– Cost of debt: provided
with pre-tax cost market
Kd = 10,25 +4,5% x 0,72 = 10,62%
related rate +prime
• Debt-equity ratio 40% Instrument Weight Cost WACC
Equity 71,43% 16,46% 11,76%
– Debt: 40/140 = 28,57%
Debt 28,57% 10,62% 3,03%
– Equity: 100/140 = 71,43% 100% 14,79%

B HUMA CA(SA)
 LET’S CONCLUDE

VALUE: CHOOSE APPROPRIATE METHOD

DETERMINE ADJ PE Multiple

MAINTAINABLE MAINTAINABLE
EARNINGS EARNINGS PE ratio v EY

USE
TERMINAL
APPROPRIATE
VALUE
RATE [WACC]
B HUMA CA(SA)
MERGERS & ACQUISITION
Chapter 11 & 12 (Textbook both 8th / 9th Edition)
Learning Unit 10 &11 (TUT102)

B HUMA CA(SA)
MERGERS & ACQUISITION: PRIOR KNOWLEDGE

• Valuations [Chapter 11]

B HUMA CA(SA)
 OBJECTIVES
• Analyse the risks and financial implications for
merger, acquisition, start-up & strategic alliance or
divestiture
• Analysis of forms of transactions, financing options
& terms; due diligence procedures; systems;
conflict of interest issues and risk & rewards
• Use different techniques to determine advance
valuations for purpose of mergers and acquisitions

B HUMA CA(SA)
 WHY TAKE OVERS/ MERGERS

Strategic
Takeover
• Growth Merger
• Result in either - Buy control
Takeover/Merge - New co formed
- Buyer retains - name

B HUMA CA(SA)
 MINIMUM | MAXIMUM | FAIR PRICE

MIN Target
MAX FP
Acquirer’s Independent
company’s
perspective appraiser
perspective

Includes
Excludes Only general
unique
synergies synergies
synergies
Target Payable by
organisation acquirer Expert

Adj. PE x latest MIN VAL + ADD

maintainable SYNERGIES
earnings

B HUMA CA(SA)
 Examples

Please work through the following questions:

Ukuzwa Q 17 part c

Past exam 2018 [ see slides below]

Example/
Question
B HUMA CA(SA)
 Previous exams…
Affordable Shopping Group (Pty) Ltd, (ASG), was founded in 1994 by Mr. Green.
ASG retails groceries, perishables, and limited baked consumables. The group
also has a wholesale division that sell mainly on credit. Mr. Green is a well-
known businessperson who has opened 25 stores in South Africa. In his opinion,
the time for his retirement has arrived and he is looking to dispose of his entire
shareholding in ASG (Mr. Green currently holds 100% of the shareholding in
ASG).

Corpvest Ltd, (Corpvest), is a diversified investment group and is listed on the

Johannesburg Securities Exchange (JSE). Corpvest has shown interest in
acquiring ASG with the intention of franchising the brand to further unlock
value and continue with the growth plans started by Mr. Green. You have
recently been appointed as a Management Accountant at Corpvest.

The following information relating to ASG has been presented to you:

B HUMA CA(SA)
B HUMA CA(SA)
 Statement of Comprehensive income for the year ended 31 March 2018 (actual results)
2018 2017 2016
R’m R’m R’m

Sales 7 938 7 595 6 810

Cost of sales 6 271 6 038 5 441
Gross profit 1 667 1 557 1 369
Sales, Administrative and general expenses 1 128 1 123 1 075
Profit before interest and tax 539 434 294
Interest expense 89 84 69
Profit before taxation 450 350 225
Taxation 126 98 63
Profit after taxation 324 252 162

Notes and additional information

1. Included in the Sales, Administrative and General expenses are:

• Mr. Green and other staff members were under paid for the three years under review by at least 20%
per annum of the cost currently reflected in the Statement of Comprehensive Income.
• The premises occupied by ASG is rented from The Green Property Trust where Mr. Green is a member.
The rental paid by ASG is 20% below the market rate for each of the three years under review.
• There were reimbursements from ASG’s insurer over the last three years. These arose from claims for
perishables that had gone bad due to disruptions in the electricity supply in certain stores in smaller
cities. These amounts are taxable. This matterB HUMA
is expected
CA(SA) to be resolved in the next financial period.
Notes and additional information continued…

2. There were no disposals of property, plant and equipment during the periods under review.
3. All sales made by ASG are on credit.
4. A JSE-listed company similar to ASG has a trailing Price earnings ratio (PE ratio) of 10 times
and a forward PE of 14 times. ASG is about 20% of the size of the average company listed on
the JSE.
5. ASG has experienced significant growth over the last decade which was part of the
expansion strategy.
This growth was funded mainly by debt resulting in the entity having a higher debt to equity
ratio than the industry.
6. ASG has growth prospects driven by the excellent distribution channels in major cities in
South Africa.
Due to this infrastructure Corpvest can implement significant changes and extract efficiencies
if the acquisition of ASG is successful. Specific synergies been estimated at R17m savings.
7. The working capital cycle for ASG’s closest competitor is 21 days and is considered
appropriate for this type of business.
8. ASG uses a corporate tax rate of 28%.

B HUMA CA(SA)
Notes and additional information continued…

2. There were no disposals of property, plant and equipment during the periods under review.
3. All sales made by ASG are on credit.
4. A JSE-listed company similar to ASG has a trailing Price earnings ratio (PE ratio) of 10 times and a
forward PE of 14 times. ASG is about 20% of the size of the average company listed on the JSE.
5. ASG has experienced significant growth over the last decade which was part of the expansion
strategy.
This growth was funded mainly by debt resulting in the entity having a higher debt to equity ratio than the
industry.
6. ASG has growth prospects driven by the excellent distribution channels in major cities in South Africa.
Due to this infrastructure Corpvest can implement significant changes and extract efficiencies if the
acquisition of ASG is successful. Specific synergies been estimated at R17m savings.
7. The working capital cycle for ASG’s closest competitor is 21 days and is considered appropriate for
this type of business. Trailing P/E multiple
Historical maintainable earnings = 1 yr.
8. ASG uses a corporate tax rate of 28%.
Forward MVIC/EBITDA
Forecast maintainable EBITDA = 1yr.

B HUMA CA(SA)
REQUIRED Marks
Sub- Total
total
(a) Propose a minimum and maximum value that Corpvest should offer Mr. Green
for 100% of the shares in ASG at 31 March 2018.

Use “Profit after tax” as a starting point for your calculation.

(No report format is required and round all workings to the nearest R’m) 16

Presentation and communication 1 17

B HUMA CA(SA)
 2018 2017 2016
R’m R’m R’m
2018 Profit after tax 324 252 162 (1)R/W Mr. Green and other staff members were under paid for the three years
Less: Additional Directors remuneration -6 -5 -3 (1)R/W under review by at least 20%
[32 x 20%; 25 x 20%; 16 x 20%]

Tax effect (28% on adjustment) 2 1 1 (1)c

insurer over the last three years…not relevant and excluded as part of
Less: insurance reimbursements -10 -10 -9 (1)R/W maintainable earnings (not expected to re-incur)
Tax effect (28% on adjustment) 3 3 3 (1)c

Less: Rent market elated (saving 20%) -53 -45 -40 (1)R/W 20% below the market rate for each of the three years under review
[(210/80%)*20%;(180/80%)*20%;
(160/80%)*20%]
Tax effect (28% on adjustment) 15 13 11 (1)c
Adjusted profit after tax 275 209 125

Trend – upward
Therefore, use 275

B HUMA CA(SA)
Pe of similar entity 10 (1)R/W
Adjustments
Private owned -1 (1)
Loss of expertise/business connection -1 (1)
Positive growth prospects 1 (1)
Higher debt than competitors -1 (1)
Adjusted PE ratio 8 (1)

B HUMA CA(SA)
 METHODS TO PAY TAKE OVERS/ MERGERS

Cash Shares Both

Is cash available
New issue or Consider D:E of
enough / raise
raise new debt target co.
debt

Consider:

• Tax implications for Target and Acquirer

• Gearing of Acquirer
• Dilution of shareholding of Acquiring company
• Impact on acquiring companies share price

B HUMA CA(SA)