Castellanza, 24 th November, 2010

1. THE MERGERS AND ACQUISITION MARKET. AN OVERVIEW.INTRODUCTION TO COMPANY’S VALUE AND VALUATION TECHNIQUES.DCF AND COMPARABLES Lesson 12 Corporate Finance Castellanza, 24th November, 2010

2. Business valuation: definition of value • Market value: is a general estimate of what a business would sell for in the open market. It is independent of a particular investor • Investment value: is the value of the business to a specific investor. It would reflect synergies, a tax rate specific to the investor, and policies the investor is likely to implement • Fair value: is used in certain legal cases and the method is defined by statute

3. How to realize an acquisition • Analysis and definition of the industry and the target co. • General screening of the co.s • Specific analysis of the most interesting co.s • Priority in contacts • Way of contacting • First approach

4. Methods • Assets • Revenues • Comparables Market approach • Discounted Cash Flow (DCF) Analytical approach • Each approach has advantages and disadvantages • Generally there is no right answer to a valuation problem. • More an art than a science!

5. 5 Comparables (Multiples) • Multiple = Enterprise value / most important element to value (EBIT, EBITDA, Sales) • Compute the average of the multiple of the companies of the sample • Multiply the average multiple obtained for EBIT, EBITDA or Sales of your company

6. Discounted Cash Flow (DCF) DCF capitalizes the cash flows the firm is expected to generate Strenght: reflects actual benefits that investors care about better than other methods Weakness: relies heavily on projections. Valuations are only as good as these projections

7. Discounted Cash Flow (DCF) (cont’d) Ft Wf =  + TV (1 + k)t W company’s value Ft Cash Flows k discount rate n number of periods considered TV terminal value of the company n t = 1

8. Cash Flows Cash Flows to Firm Cash Flows Cash Flows to Equity

9. 9 Cash Flows to Firm • The FCF are the expected cashflows to the firm, i.e., the residual cashflows after meeting all operating expenses and taxes, but prior to debt payments, discounted at the WACC. • EBIT • -/+ Change in Net Working Capital • + Depreciation, amortization • - Investments • + Divestments • Taxes • Free Cash Flow to Firm

10. Cash Flows to Equity The CF to Equity are the expected cashflows, i.e., the residual cashflows after meeting operating expenses, tax obligations and interest and principal debt payments and reinvestments needs, at the cost of equity (ke), i.e., the rate of return required by equity investors in the firm. EBIT +/- Change in Net Working Capital + Depreciation, amortization - Investments + Divestments - Interests Expenses - Principal payments - Taxes Free Cash Flows to Equity

11. Terminal value Fn/ (k-g) TV = (1 + k)n+1 Because businesses are typically long-lived assets and detailed cashflows forecasts beyond 5 yrs tend to be more fiction than fact, most analysts project cashflows for a finite period and then assume some normal terminal value at the end of that period g = sustainable growth rate (usually: long-term expected rate of inflation)

12. How time can be critical Overview 1° case – original business plan 2° case – revised business plan Conclusion Business Case 1 - Valuations

13. Alpha company operates in the Italian real estate sector. • The following tables shows the flows deriving from the company business plan, as follow: original business plan before the market drop (2007) revised business plan to show the expected flows after the crisis (2008) Business Case 1 1 2 To suit the new scenario, the revised business plan postpones the expected in-flows until 6 months

14. 1° case – original business plan Business Case 1 Projections

15. 2° case – revised business plan Business Case 1 Projections 6 month postponed

16. Conclusion Business Case 1 1° case – original business plan 2° case – revised business plan The equity value drops by 41%

17. Exchange ratios in a merger Overview The project Conclusion Business Case 2 - Valuations

18. Overwiev Both the Companies operates in the same sector • We are going to analyse a project of merger between Company A and Company B. Business Case 2

19. The Project The merger process is supposed to be structured on a valuation process based on general criteria of rationality, demonstrability, objectivity and stability. Method’s choice: on the basis of the business’ nature and investment plans the Unlevered Discounted Cash Flow method has been adopted. Value’s determination: according to UDCF method, the consultant has considered it right to identify, instead of a precise value, a range of values of the share conversion ratio. Business Case 2

20. Business Case 2 A sensitivityanalisyshasbeenmade on the basisofdifferentassumptions, i.e.: -the potentialcompanies’ prospecitvecapacityto generate benefits in termsof NOPLAT (Net Operating Profit LessAdjustedTaxes); -differentdebtratiosrelatedto WACC (WeightedAverageCostof Capital).

21. Conclusion On the basis of the valuation process with the UDCF method the share conversion ratio was supposed to be in the sequent range: A market approach method (marketmultiples method) has furthermore been adopted to validate the share conversion ratio: Business Case 2

22. Pursuant to the camparison between the different methods of valuation the board of directors suggested to consider a share conversion ratio between a minimum of 0.80 and a maximum of 0.85. Business Case 2 0.98 0.91 0.82 0.80 0.78 0.78 0.77 0.76 Flow approach: Unlevered Discounted Cash Flow Market approach: Multiples