M&A questions: expertise needed!

FT interviews are starting already? crap, I havent even applied to any firms yet.

Whether debt needs to be refinanced depends on the credit agreement, but I'd say 99% of the time a covenant would specify that the debt needs to be refinanced in the event of a change of control (this applies to a majority stake ownership as well).

The amount of NOLs can be claimed in full by the acquiror, but the amount that can be utilized per year depends on the adjusted long term federal tax-exempt rate (http://www.pmstax.com/afr/exemptAFR.shtml). You multiply the rate by the total amount of NOLs acquired for an annual utilization limit. As for the rate, I'm not sure whether you use the latest month or an average of the last 3 months...someone feel free to correct me on the specifics.

In an asset purchase, it would really depend on the asset you are buying and the purchase agreement. A building, for example, would probably just come with any mortgages associated with it, whereas buying a business would come with pension liabilities of its employees and so forth.

I worked in M&A for a year..

1)Yes, generally a buyer assumes all assets and liabilities of the company, unless it was an asset sale (i.e. not the entire company). Most of the Debt does get refinanced, most credit agreements have "change of control" provision, meaning that in the event of a takeover, all debt is due at that particular point. This issue gets a bit more messy for conglomerates and such, but at that point it's more of a purchase accounting question, not something we deal with directly.

2) It depends. A majority stake would presumably be in the equity form, and it would just depend on the way that the business is structured. In a PE fund structure, every LP is liable for their respective pro-rata share.

3)It depends on the actual assets. In most cases the liabilities are assumed. For example if a company purchases a $1B power plant from Company B, it will have to purchase (and be liable) for insurance against environmental waste. This is modeled out as well.

Sorry if this is unclear..

Thanks for the answer guys! If you don't mind, I'm going to follow up with a few more questions.

1) So does the target's debt more often get refinanced (meaning the parent company sees an increase of debt on its B/S after the acquisition) or retired (by using acquired assets to repay some of the debt and then just adds the net assets on to its B/S)?

2) I've often heard that we use Enterprise Value as a metric b/c that is what a company actually "pays" for an acquisition. But is this true?

Doesn't the acquiror ONLY have to purchase the equity (and then assume or service the debt that potentially comes with the equity)?

By the way, is preferred stock considered part of the acquisition price?

3) Lastly, in the case of employee benefits, pension liabilities, environmental provisions, etc., being transferable, would you include these liabilities as part of the enterprise value calculation?

I'm asking b/c I've been taught to only include interest-bearing securities in TEV calculations.

Thanks for your kind help

Acquisitions are done on a cash-free, debt-free basis. The seller uses the cash received from the sale to pay off outstanding debt and simply keeps all of the cash on the balance sheet. The company then takes on new debt from financing sources arranged by the buyer with new credit agreements, etc.

~~~~~~~~~~~ CompBanker

To add to what everyone else has said.

Even with an asset sale you are forced to assume certain liabilities i.e. toxic torts.

Some deals are stock sales but for tax purposes considered asset sales. It's called a 338(h)(10)...can't imagine that it would come up in your interview though.

So it's the SELLER and not the buyer who is responsible for repaying outstanding debt at the time of the change of control?

If this is true, then why do people look at the TEV as the "full price" of an acquisition?

From my understanding, the buyer is only responsible for purchasing the outstanding equity of the target. Any debt that is transferred in the acquisition only has to be serviced, correct? The buyer does not have to purchase it outright at the market value or anything?

Sorry for all the question, just want to have this down pat.

TEV represents the total value of the firm. Capitalization of a company is comprised of debt + equity. In calculating an acquisition price, apply some sort of multiple you feel comfortable with to achieve accretion or a target IRR, etc. Let's say you have 10M of EBITDA and a 6x multiple. Your TEV is 60M. You assume cash free / debt free acquisition, meaning that the seller worries about his debt and his cash. Under this scenario, let's say the seller has 30M in debt. He would receive 60M in cash, assuming there is no rollover equity. At closing, 30M of that cash would be disbursed to pay off the debt. The remaining 30M would be disbursed to the seller. Your new capital structure is how you choose to fund the acquistion. You could borrow 30M of the purchase price and put in 30M of equity, maintaining a similar capital structure, or choose whatever you are able to get financing for. All you as the buyer worry about is the post-transaction capital structure. Pre-transaction, it doesn't matter because that is the sellers problem.

However, if there is debt, that can be rolled over and you as the buyer want to roll it over, here is how it would work. You would look at the 60M in TEV. Let's say there is an existing term loan on the company at an attractive rate, one in which you wouldnt be able to get in the market at the time of acquisition. You choose to roll that over and the principal balance on the loan is 10M. Your TEV is still 60M, however, your cash to seller is now only 50M. At closing, there would be a disbursement of 20M to pay off the non-rollover debt and the same 30M disbursement of cash to the seller.

So, for example, in the case of an all-stock deal where the buyer acquires all the outstanding shares of a target (say the Mkt. cap is $6B) and the target has $1B of bonds outstanding, does the buyer only pay for the stock ($6B + premium) or also for the bonds ($6B + premium + $1B = $7B + premium)?

I know TEV represents the total value of the firm, but I thought all the buyer had to pay for was the outstanding stock of the target with a premium.

The bottom line is, the seller has to worry about paying off his debt upon a change of control. The buyer's form of consideration will never change that fact.

In an all-stock deal, the buyer swaps his equity with the target's equity, but presumably the seller will want the buyer to come up with cash to pay off the debt as well. The buyer can choose to finance that cash however he wants, whether through a sale of equity to the open market or through debt.

This is an excellent post and will definitely help me in my final rounds tomorrow lol.

mnabanker33, what happens if its an all stock deal for example where stock for the target is exchanged for stock of the acquirer. In this case no cash is raised? Will the acquirer then have to assume the debt?

Thanks alot