Deciding on a method of payment for M&A
Hi everyone, I have recently taken an M&A class in which I had to create a pitch deck presentation related to a deal between two public companies. The target company entered a scheme of arrangement with another company on a cash+stock deal. When deciding on the payment, I noticed that the acquirer had strong cash levels, good credit rating and undervalued stock, so my intention was to pursue a debt-financed 100% cash deal due to the implied low cost of debt as well as my offer being more liquid to the target shareholders than the one presented by the other firm. However, while receiving feedback, I was told that I missed the context of the transaction as the target company has a lot of inside ownership (employees) and stockholders might not be willing to let go of a company in which they got their life savings invested in. This was definitely a fair point.
So, I know this might be something that I don't need to know yet and I'll learn on the job. But I would be interested in learning, generally, what are the main factors that you need to take into account (besides inside ownership) when deciding on the payment method (cash, stock, stock+cash, etc)?
Some considerations below when evaluating consideration mix.
Acquirer's acquisition debt capacity based on current / PF leverage, ratings impact and cost of debt
Acquirer's cost of equity
Ownership split, management and governance rights between target and acquirer
Desire of target's shareholder base for liquidity vs. participation in potential upside
Tax implications of cash consideration vs. tax deferment from stock consideration
The only case in which the feedback you got might make sense is if the two public companies (target and acquiror) are about equal in size. In that case, yes, one might argue for an all-stock merger of equals to give each set of owners some control.
But if this was a (more typical) case of a very big company swallowing up a smaller company, the consideration is far less relevant. The employees/shareholders of the target will get liquidity and a control premium, and reloaded with stock options in the combined company.
This doesn’t seem to make sense. Cash or stock has tax implications, but assuming the acquirer is liquid on an exchange then the target shareholders could easily cash out any stock from the deal. Employment would need to be incentivized BEYOND the acquisition premium.
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