Okay, it looks though we've got a good cohort. Okay. Hi everybody, my name is Alistair Matchett.

I'm gonna be taking this session for the next hour on m and a analysis.

This is the final session on m and a modeling and we're gonna focus here on the analysis, but I actually want spend quite a bit of time understanding the analysis before we actually get into doing the formulas and the calculations in the model.

So my background is I was banking I some my career in banking at JP Morgan in um, m and a, doing oil and gas and financial institutions financial advisory.

Then I worked in private equity for a fund called three I, which is based in London.

And then I've been teaching for over 20 years in Wall Street, um, covering corporate finance and topics like m and a analysis.

That's my background. As I said, what I'm gonna start with, rather than diving to the model, is actually a press release for a transaction that happened between a company called Kraft, which is a US company buying a UK company called Cadbury.

And the reason I'm starting with this, rather than dive diving into the model is that this will give you a good understanding of the kind of things investors are looking at when a transaction happens.

And the reason that that's so important is that that's the primary output that you need for your model.

You do a model to get an output so you can show investors what the financial effects are of the transaction.

So that's the whole aim of doing a model.

So let's go ahead and just share my screen.

And what I'm gonna start with is go into um, the press release. So this is the, it's a cross border transaction.

And oh, by the way, if you want to ask any questions, don't hesitate to ask questions.

If you just click on the q and a button below and shoot me any questions, I'll happily answer them.

If you want the files that I'm going through, again, you can click down below at resources or if you have a Felix subscription, which I'm sure you all do, then you can, if you go to the topics list and go down to Felix live, you can see that we have all the sessions we're covering in these webinars.

And if you come down to the m and a analysis section here, you can see that down at the bottom. These are the files.

Now I'm actually gonna focus on just the Bayer Monsanto transaction.

So if you download the file I've just highlighted, that's the one you want to open.

So before we actually get started with the model though, let's go to this press release.

So this is Cadbury's press release related to the transaction where they're buying Cadbury Cross-border transaction.

And what I want to do is just have a look at some of the things that we're talking about. Firstly, it's a price of 840 pence and that's a mix of two considerations. Firstly, it's five pounds in cash and for each Cadbury share that investors own, they'll get 0.1 8, 7 4 shares in craft.

And when we say and share issue like that, what it's not it where a company, well it can be a company can go into the market and raise cash by issuing stock, but generally speaking, the vast majority of transactions, instead of issuing stock they to other investors, they will literally do a share swap with the target child investors.

And the reason for that is twofold. Firstly, when you are issuing stock to investors for cash, they would expect typically a 10 to 20% fair value discount on the share price that is issued. That's hugely expensive. Secondly, you've got underwriting fees, which you'll need the deal up being underwritten because it's a transaction and now they will be anything between four to 7%.

So if you raise cash by issuing stock, it's just super, super expensive. So in this case, as in the most, most cases what will happen is craft will hand over shares to Cadbury shareholders close their craft shares and they will then expect Cadbury shareholders to return them, return their shares to craft.

Obviously when you do a share swap like this, the acquire share price is really important and that's why it's sometimes known as the acquisition currency.

And you can see here the craft share price is $29 58 cents. Now if that falls, the actual value of the offer falls as well if it rises the value of the offer rises. So being a good financial advisor means really understanding how investors can evaluate the transaction, which is why understanding these components is so important because that's how investors will actually think about the transaction. Now if we um, move down, you can see they also get a special dividend. These are cabra shareholders, we'll get an additional 10 pence in dividends just prior to the closing of the transaction. That value, if you're doing transaction comps need to be added to the 840 pence.

Actually it's a total consideration 850 pence.

And the reason for that is that when you do your trading comps, what you will do is you'll do the valuation on assuming that the cash is in the business, but actually that cash is going to the shareholders.

They're actually, the value you are getting for the firm is higher, um, because the cash is not going to be there.

So you need to add on the value of the cash to get the correct enterprise value.

So the TED Enterprise value is 11.9 billion in this case and they issue 265 million new craft share directly to Capri shareholders.

That only represents 80% of the combined share capital sensitive if it's 50 50, 'cause then you've gotta ask yourself of whether we should use a percent premium. But if you come down, they talk about the strategy.

And one of the things that's important to understand in m and a transactions is that strategy is the underlying factor of doing transactions.

There's got to be an important strategic reason for doing the transaction.

You can't just do deals based on improving the financial, the financials because the market will just hate you because they'll think, well why are you having to pay a premium for this? This makes no sense.

So that's usually in the press release, quite a lot of strategic overlay of why this makes such a um, sensible transaction.

Now if we come down here, they're also talking about a multiple 13 times underlying EBITDA for Cadbury 2009, which is a historic multiple. But then they go onto synergy benefits.

And Synergy benefits, a key part of transaction $675 million a year.

That will be a full run rate. And when they say run rate, what it means is the synergies fully baked in. So in other words, all the cost savings have been actually extracted.

Now that normally takes about three years. So you'll often, if you build a model, see your synge number kind of creep up over a five, oh sorry, over a three year period because it takes time to extract those cost savings. Also, if you're valuing the syns, you've got 1.3 billion of costs associated with that, that will need to be baked in to the analysis.

Now one of the things that we need to understand here is that we're talking about accretion to earnings per share.

And this is key.

What we are saying here is that if you take the equity research forecast for the acquiring company, if they do this deal, that forecast will need to be updated in the case of craft by an additional 5 cents per share. So if your EPS goes up, that correspondingly means that if your multiple stays constant, your share price should go up.

Now this works really well if the quality of the acquirers and targets earnings are similar. And what that means is similar growth rates, similar margins. If they're not, they could be a very, very good reason why you have to pay a low or high multiple of the target than your company.

So it's actually quite dangerous to use EPS tion dilution unless the quality of earnings of the two firms are very, very similar. However, it's still extensively used.

The second thing is a return on investment.

And this is the notepad generated by the target divided by the enterprise value you are paying plus any fees and you're gonna compare that to the company's cost of capital. And it says here, craft cost of capital, it's actually not correct, it should be cab risk's, cost of capital.

And then they're talking about this EPS secretion dilution on a cash basis.

That's a bit of a, of a misnomer because you're not actually doing cash per share.

What you are doing here, what this means is you are excluding any depreciation or amortization of asset step ups.

So that's what they mean when they say cash EPS. They don't mean actually cash flow per share and then you can see it, it's shipping out non-recurring items there.

And then they're saying that Kraft Foods is gonna maintain its investment grade credit rating. So the other factor here that you want to consider is what happens to the acQuire's credit rating and if they've used a lot of debt that could deteriorate, bond investors are like elephants. They have a really, really long memory.

So if you do a deal that reduces your credit rating, the existing bond holders will see their bonds fall in value because the yield will rise and they'll hate you for it and that will shut out your ability to raise capital in the market.

So that's why not only do you want to do accretion dilution, return investor capital, but also credit analysis to see the impact on the credit rating.

And we'll look at the typically the leverage ratios to do that.

Last but not least, the maintenance of craft food's dividend.

Why would you care about this? Well, you do care because in this deal craft is issuing a ton more shares. If there's a lot more shares outstanding, there's got to be a lot more dividends paid.

And this is particularly relevant where the target company is a lot cash, a lot less cash generative than the acquirer and therefore the combined business may not be able to afford to pay such a generous dividend policy on these new shares. So that's what they're saying, saying, Hey shareholders, don't worry, it's okay. We'll keep and maintain your dividend.

So this gives you a really nice overview of a transaction. In fact, we can kind of look at a, let's go to Felix quickly and let's look at a um, recent transaction here.

And if I go to um, Hess, which is an oil company, this was acquired recently. Um, and let me just see if it's got the press release here. Yeah, there's press release dated October 23rd and this is a joint press release be between Chevron and Hess, Chevron acquiring Hess.

And if I just zoom in a bit, you can see that they're talking about this is a transaction, strong strategic fit, always important.

And then in this case they're actually doing that. This says accretive to cashflow per share. Now this is actually truly cashflow.

This is not earnings per share on a cash kind of cash EPS, this is actually too cashflow and this is probably because it's um, the oil industry. So this is what they're saying, it's accretive cash over per share and because the cash generation is so good then the dividends per share is going to increase 8% and they're going to be able to enact share repurchases.

Plus they're saying that there's going to be um, increased asset sales and they've got run rate synergies of a billion dollars.

So run rate means the fully kind of fully um, a achieved synergies on a yearly basis.

And in this case Chevron is issuing a hundred percent stocks. It's an all stock deal. So credit rating is not gonna be such an important deal.

Amazingly it's only a 10.3% premium, which I kinda shocked about because actually the share price of Hess hasn't changed that much in the last 12 months.

'cause normally you would expect a such a low premium to be off the back of a really increasing share price over the air and that's kind of surprises me that it doesn't.

So I want to just kinda show you two press releases because that's really what we're trying to do in our model. Now if I open the model, let me just hop to Excel.

This model is quite a big model and we've been going through this over the last few sessions. We've got a set of assumptions here.

We've got an acquirer's forecast in Euros with the 31st of December year end. The targets forecast as a US company.

This is Bayer. Uh, acquiring Monsanto is based on a Euro forecast with a year end of August 31st.

So this means what you have to do is you've got to categorize the targets forecast to be in line with the acquirer and you've got to flip the FX rate from US dollars to Euros, which we've done here.

Then you can do an opening balance sheet and you've got the adjustments, you have got the accounting adjustments, the financing adjustments, um, and then we've got the goodwill and step ups here and we've got APE step up intangible step up and new goodwill there too.

We've got some calculations, some synergies here and we're doing synergies which are costings and revenue synergies as well.

And then we've got some net pp e step ups there and also the associated defer tax liability.

Let me explain what's happening here.

Typically most transactions the target company will stay a legal entity and that means that when you step up the target's assets, you only do that in the consolidation of all the companies together.

You won't do that step up in the legal entity of the target.

And this means that that target sells those assets.

There'll be a big taxable gain on the sale of them because the market price will be higher than the book value.

So if we step up the assets by 951, what we also need to do is make a corresponding deferred tax liability as well representing the tax gain that you would have on that step up.

Now that tax um, liability that comes from probably both the um, step up of the brands and the pp and e and that's why it's so large there. So we've got our opening balance sheet, then we've got our calculations, then we've got a new co forecast which is the combined forecast of the acquirer and target with the 31st of December year end and in euros.

And now we're going to do the analysis.

So I'm gonna do this relatively quickly 'cause I think it's important for us to kind of try and get through most of the numbers. Again, if you want to follow me through what i's suggest is you download the files, you can either do that in the resources button below, but just delete out this sheet and we can kind of build it together if you want to follow along.

So the first thing I'm going to do is get the normalized net income from the NewCo. So I'm gonna go to the NewCo income statement and I'm gonna get the normalized um, non-controlling income, non-con, non-con controlling the normalized net income.

Sorry it's so Friday after all.

And you can see here we've got net income and then we've got reported net income to common shareholders.

I want the reported net income to common shareholders because I'm doing this on the basis of our parent company shareholders.

So I don't want to include the non-controlling interest in that.

So I'm gonna pull that in. But 2017 there.

So I'm just going to do that. And then I've got the pp e set up, step up, this is the depreciation.

Now I'm removing this because remember in that press release that we saw it said a cash EPS number. Well this is what they mean. They mean excluding any depreciation and amortization from the asset, asset asset step ups.

And we've made the assumption here that the new intangibles are what we call infinite intangibles. They don't get amortized.

So I'm not just gonna be worried about the pp e step up and I'm working based on net income. So I'm gonna add back the pp and e step up.

I'm just gonna go to the um, step up depreciation there.

But then what I'm going to do is I'm going to just um, reduce that by the unwinding of the deferred tax liability because that unwinding of, of the 33.3 is related to the depreciation.

So if we add back the depreciation profit will go up by 95, but tax will also go up by 33.3.

So the net effect is going to be, I get my parentheses here is going to be 61.8.

So my cash proforma net income is the addition of those two.

And then I'll compare that to the proforma weighted average shares outstanding.

Go to NewCo, go down to the bottom here and I'm gonna pull in the proforma weighted average shares outstanding, um, which I've got in the wrong year. Apologies, lemme just change that to G. There we go.

And then I can calculate the fully diluted cash EPS. So this is not cashflow per share. What this is, this is EPS on what we call a cash basis.

So analysts use that term because what they're trying to do is understand what a kind of EPS would be on a kind of consistent basis because if the transaction didn't happen, they step up wouldn't happen.

So you're trying to look at it on a kind of like for like basis.

Then we'll compare that of course to the acquirer EPS. So I'm gonna go and get the acquirer's EPS which is from there forecast and I'll take that from 2017 as well.

Just increase the decimal and then we can calculate the accretion dilution.

And it's pretty flipping amazing this accretion dilution. This is like astoundingly good but there's a good reason and you'll see why in just a moment. Now before I do that, we're going to do the additional pretax syn energy to break even.

So what I'm going to try and do is I'm going to try and make this dilutive and I'm gonna do that by putting a crazy multiple in here of like a thousand percent. I'm doing that just because I have to make, I literally have to make it just crazy, um, to make this, oh gosh, it's still, it's saying it's 'cause we've not got interest in the model.

That's why.

So let me see if I can turn the suck switch on because then interest will come through the model. Let's just see if that happens. Now, yes, it's dilutive ype, okay, so in this case it's dilutive and what I want to try and do is it's dilutive. Wow 'cause that's actually negative but let's just go through the mechanics and then I'll adjust the premium back to something more normal.

But in this case the standalone EPS on a pre-deal basis is $5 4 cents or five euros, 4 cents and now it's making a loss. So what we're asking is how many synergies do we want to have to reduce or make the proforma EPS equal to 5.04? So the first thing to do is say well actually how much, uh, how many earnings on the per cent cent basis do we need? Well if I just take the um, proforma standalone EPS and I subtract what the prior EPS was, then I actually need on a per share basis another 13.90 cents per share. However, we don't ever think about things like costs synergies based on the sense per share. So what I'm then gonna do is I'm just gonna multiply that by the weighted average shares outstanding on a pro forma basis. That has to be a pro forma basis. So we actually, we need about $13.6 billion billion euros, sorry, of synergies or net income from synergies. However, we don't think about synergies on a post-tax basis.

We always think about 'em in terms of cost savings, like slashing headcount by a hundred million dollars.

So then what we have to do is we've got to divide that kind of gross it up by one minus the marginal tax rate.

And in this model I've got a little marginal tax rate down at the bottom for the um, NewCo and I'm gonna use that absolute reference set and I've got, I need synergies or cost savings in this case of $19.4 billion crazy amounts but it's a crazy premium.

But let me now go back and just change the premium 'cause I like to have like a positive number when I'm explaining that. So lemme go back and I'm gonna make a more normal premium, let's say 43%.

And I'm gonna go back to the analysis sheet now.

So this in this case actually it is dilutive, um, because we have got the interest income there.

So they need about $367 million to prevent dilution of synergies. Now when you are doing this analysis, it's really kind of helpful to think about the relative PE ratios of the companies. So we're going to do the PE ratio of the target company at the acquisition price compared to the PE ratio of the acquirer and then we'll calculate some called a debt PE ratio. So lemme just do the acquisition PE ratio.

So I'm gonna go to the assumptions and I'm going to go to the targets acquisition price, the offer price.

And what I then need to do is I'm going to multiply that by the FX rate. So I'm gonna press in this case, um, just con check yeah press F three and I'm gonna go and pick my fx. There we go. And that will convert that to euros.

And then what I'm going to do is I'm gonna divide that by the targets calendarized EPS number that has been converted to euros.

So I'm gonna come down here and I'm just gonna do that. There we go.

In that column G and I get 29.2.

So the PE ratio of the target company is about 29.2. Let's compare that to the acquirers PE ratio.

So I'm gonna get the acquirers share price, which is a hundred 0.5 euros and I'm gonna divide that by the acquirer's diluted EPS number in the same year column G and I get 19.9.

So immediately what you see here is a problem and the problem is that the acquirers, the cost that will, the price that we're buying the acquirer is 29.2 times earnings, whereas we're actually funding the transaction 'cause we are funding it part with stock is 19.9. That's a major issue.

And the reason this is a major issue is that, think about these as Pokemon card values. If you ever played Pokemon as a child, you would, you had really, really high value Pokemon card like Charles' are and you have a really low value. You have a friend who has uh, 10 low value cards and I can can't think of a low value Pokemon um, um, card at the moment.

Then the person who's got the really high value card will hand over one card and they'll get maybe 10 or seven of the low value cards.

So in this case what happens is we are paying, the price that we're paying is 29.2 euros for each euro of earnings and we're funding it with the equity portion based on about 19.9 euros for each euro of earnings we're handing over.

So this means that this is not an equal exchange because actually to buy one euro of the target's earnings, you are going to need to hand over one and a half shares in the acquirer.

And that's why if you did this deal on an all equity basis, this is predicting that this will be dilutive because the exchange ratio, the exchange on the basis of one euro in earnings is not gonna be equal. But we don't always think about it like this. Another way of think about it, which is a little bit more intuitive, it's a think about a return on equity and a cost of equity. Now the return on equity, we are paying 29 point 29.2. And what are we getting? We're getting one euro of earnings. So I'm just gonna take the the one euro of earnings and I'm gonna divide it by the 29.2.

So what this select translates into is about a return on equity of about 3.4%.

Now let's compare that to how we're funding it.

Well we are being able to raise 90.9 euros for each one euro of earnings we're handing over as an acquirer and I can do the same kind of calculation on divided by that. And I got the cost of equity in this case, the 5%.

So you can see the problem we're getting a return of 3.4% but our funding cost is 5%. So that's a major, major issue.

And what we'll have to do is in this case we will end up having dilution. So this is a good predictor of the deal either being accretive or diluted.

Then I'll do a debt PE ratio and I'm gonna do a debt, a cost of debt after tax first.

And I can just get that from my assumptions and I'm gonna come down to my cost of debt, which is all the way down towards the bottom, the 5%.

And what I'm gonna do is multiply that by one minus the marginal tax rate, there we go and make that a percentage and it's 3.5%.

Then I can convert that into a debt PE ratio just by taking one divided by 3.5% and I get 28.6.

So what this means is that if I do the deal on a debt finance basis, it should be accretive because our Pokemon card value is 28.6.

But the acquisition price, or actually no it still would be dilutive actually with no syn, it would be dilutive. So oh my gosh we are toast because we're dilutive both under equity financing and under debt financing. Normally people are not paying plenty of nine times.

So even with debt financing it should be accretive but not so in this case.

But this is a really good predictor excluding synergies of whether the deal is going to be accretive or dilutive. And I would always recommend you do this.

So in this case it's gonna be a lot less dilutive if you pay with debt and it's gonna be more dilutive if you pay with equity. If we are going to do an all equity finance deal, one of the considerations is do you lose control of the business? So it's quite important just to compare the um, shares and the share ownership.

So I'm gonna do the shares and I'm gonna go and take Bayer's preexisting share number, which is in the assumptions and the number of diluted share 444.

So I'm just gonna make that a number.

And then what I'm going to do is compare that to the new shares that we are issuing to the target shareholders. And again, it's the 149.4 of the assumption sheet.

And in this case, there's no risk of you losing control of the as the acquirer because the acquirer's going to be, the vast majority represent the vast majority of the shares post deal.

They're going to have about 74.8%, whereas the target will have about 25.2%.

So this in this case is a diluted transaction, but you can actually look at this not just on the basis of one year.

You can also look at on the basis of a number of years forward, and you can see here that actually, although it's diluted year one because the synergies are ramping up over the years, it becomes accretive pretty quickly here.

And actually we don't need, uh, the syns to break even.

So sometimes what people will do here is they'll just do a max function around the syns to break even. So if it is accretive, it will just zero out. There we go. And rather than have that, so in this case, if you come down here, um, I need to absolutely reference this. There we go.

And you can see here that one of the reasons is A, the synergies but also the PE ratio for debt sales constant. But the PE ratio that we are investing in goes down because the company's growing fast.

So the other thing that you also want to consider is the relative growth rates and the relative margins. And I'm just gonna do that here because it's kind of useful to do this when you're analyzing transaction and you're thinking about PE ratios because PE ratio, accretion dilution really assumes that the quality of earnings is the same. So if I just do a kind of quality of earnings analysis and I'm gonna do growth rates here and margins and probably I would do some like EBITDA margins to make it kind of strip out the step ups and everything. So the growth rates I'm going to, going to, in fact let me will insert a couple of rows underneath here because I want to do it for both companies and we'll do Bayer and then Monsanto and then set another row and I'll do Bayer and Monto again because what we want to do is we want to compare these two companies together because are, we're getting the same quality.

So I'll just start in 20 20 17.

So I'm gonna go to Bayer and the acquirer's forecast and I'll just do it on the basis of the sales.

So 2017 divided by 2016 minus one and hopefully that's in the right, yeah, yes it is. Okay, so in this case the growth rate of Bayer is, oh, it's pretty flat, right? 3%, it's not very exciting.

Let's check out Monsanto and I'm gonna do it on the Calendarized FX numbers. So again, I'll give that 2017 divided by 2016 minus one and just format that. And you can see here this is, these earnings are different quality because Monsanto is, is growing faster.

So therefore Monsanto should trade on a higher multiple.

And that means that uh, some situations where actually the market may accept a diluted deal if you are buying a company that is growing much faster.

Now if you can make it accretive and the target's growing faster, then you are really motoring. Let's quickly take a look at the margins.

I'm gonna go to bay's margins here and I'm just going to do for 2017 EBITDA divided by sales 2017 and let's see what that is.

So this is a pretty good margin business at 20%.

Let's take a look at Monsanto based on the calendarized numbers.

So I'll go to EBITDA in 2017 and I'll divide that by sales and I'm just gonna format that. There we go.

Now in this case, Bayer have lower margins than Monsanto and Monsanto is growing faster than Bayer.

So what this suggests is that Monsanto quality earnings are actually significantly better because not only are they growing faster, they actually are generating more margins.

So actually the value of the Monsanto's growth is greater because for each dollar of growth you're getting in Monsanto, assuming margins stay constant, you're getting 25, 27 0.50 cents in EBITDA compared to Bayer, you, you are only gonna get 20 cents in ebitda.

So the, there's an interplay between growth and margins, which is important to evaluate and it's really important when you're thinking about the relative PE ratios.

So there's good reason why we're having to pay such a high multiple for the target company and then when the acquirer, because it's growing faster.

So you do need to put thing things like EPS, secret acquisition dilution in the context of the quality of earnings between the two firms because otherwise you're not going to be looking at it on a like for like basis. So if you come down below, we've now got some credit analysis and this is pretty quick to do.

So I'm gonna go and get the total debt on a consolidated basis.

So I'm gonna go to the NewCo quickly, go to their balance sheet, I'll do 2017, they've got short term debt, long term debt and a convertible bond.

I'm going to ignore the pension liability. I know that's a bit naughty, but I'm just gonna do that for simplicity. Um, ideally we should include that 'cause the rating agencies would include that as well. Then I'm also gonna pull in the non-con controlling interest and I'll get that from the balance sheet, the profile of balance sheet.

And then I'm gonna pull in the book value of equity.

So I get my capitalization credit stats always based on book values because they're downside protecting and you know, don't get that value if the company goes bust.

So that's why we always use book values.

And then what I'm going to do is calculate the credit ratios, so the total debt to ebitda.

So I'm gonna go and get total debt and I'm gonna divide that by the ebitda. And generally speaking, debt to ebitda, you would normally not expect this to be over five times.

Let me just do that again.

So my total debt divided by ebitda.

So total debt divided by EBITDA 2017, there we go.

4.2 I thought that was number was incorrect. So we get about 4.2 times.

So 4.2 times is high because you are hitting on the buffers of investment grade. If you go above about five times you can do a coverage ratio, but honestly coverage ratios are less important. So I'm just gonna go down to the capitalization.

So take total debt developed by the total capitalization and here what you're seeing is that if you're more than about 50%, again it's looking dodgy if debt is more than 50% of your capitalization. So, so in this case this is really quite high leverage.

Now I have seen deals where the market actually can deal with high leverage as long as you can convince the market that it's a short term thing and you'll dev deleverage really quickly. And the the, the example I've, the best example I've got is when Keurig bought Dr. Peple Dr. Pepper and they levered up to about five times ebitda, which is kind of unheard of for a public company and they were able to do that and the market didn't downgrade them, which literally I was shocked by.

I kind of had to lie down in a darkened room to kind of get over that.

But hey ho, you sometimes see the rating agencies just say yeah, we know this is short term so this will be fine.

Then another item I've got if FFO, which is fund some operations and the fund some operations is just the cash net income.

So I mean I guess you don't have to include the amortization of advisory fees.

So I'll take FFO and I'll divide that by the total debt number above and that's another metric you can look, rating agencies will look at that.

And then I'm gonna quickly do this for Bayer.

So I'm gonna go and get the total debt divided by EBITDA from the acquirers forecast. So I'll quickly go down to the balance sheet and I'll get short-term debt and long-term debt and I'm divide that by the EBITDA and let me get this ebitda. Now the reason this is quite important to do because you really want to check I've done it in the wrong column, let me just fix that. Um, move that over, there we go and then copy that, right? Um, is you want to make sure that you are doing this comparison because it's the big change. If you have a really big change, the bond markets will just go crazy.

Then I'm gonna do total debt divided by capitalization.

So it's gimme quite a big formula here.

So I'm gonna go down and short-term debt, long-term debt divided, divided by the sum of the capitalizations, that's short-term debt, long-term debt, non-controlling interest and shares.

And again this is a percentage so if you go above about 50% it's really kind of, you know, really alert, alert, alert.

And then lastly we just do an FFO.

So I'll go to the acquirers cashflow statement and do the FFO again. There we go.

And it was FFO divided by total debt, wasn't it? So let me just divide that by the total debt on the balance sheet.

So go up to the balance sheet and I get my total debt number and that's gonna be the short-term debt and the long-term debt.

Oh short term debt and the long-term debt. There we go. So in this case FFO is about 5.24%. So if we compare this, you're seeing a really big deterioration in debt to EBITDA and that will be concerning.

Now it may be that you can get the rating agencies to agree that this is a short term thing, so it will be fine in the end, but I think that this will be a concern if I was structuring this transaction, I think probably we've got too much leverage in there. I would be, I probably wouldn't do this more than about three times, unless you're in a very, very stable industry that you can convince the rating agencies that you will dele quickly.

I would argue that that would be a really big red flag at that level.

So normally I wouldn't expect more than about three to three and a half times you may be able to do more, but you're gonna have to have clear discussions with the racing agencies.

So overall in this transaction so far we've got accretion, dilution and this deal is dilutive in year one, but often in year one it gets dilutive because what's happening is the earnings are um, the synergies are being extracted at kind of gradually over time and then it becomes accretive. And certainly if you only hit double digits accretion, that's a pretty good number. And generally speaking, in slow growing industries, you'd normally expect to have double digit EPS accretion.

This is a good deal on this basis because you are actually getting really high quality earnings even though you've got paying quite a big premium.

Monsanto is growing faster and got higher margin.

So that's something to factor in.

But I would argue that the current transaction is too high leveraged. And I'd probably go to the assumptions and say look, um, I will probably increase the equity portion to let's say 25,000.

And then now let's go back and then see what happens to the leverage ratio. 3.8 still think that's a bit high.

So let me make it 28,000 of equity portion and let's see what happens there. 3.6 I'm, I want to get it underneath that.

So let me just do 30,000 and that would be a really comfortable ratio than 3.5. I'm pretty comfortable with that.

So we are putting more equity into the deal.

What this means is that on the relative PE ratios, this is going to be less accretive because our equity PE is only in 19.9 where the ac whereas the acquisition PE is 29.2.

And you can see this in the numbers now our dilution in year one is greater and our accretion per share grows more slowly.

But I will be more comfortable presenting this transaction because I think investors will, we will react better. And when I say investors, I don't just mean equity investors, I mean dead investors as well.

I think we get the dead investors, keep them on board, keep them happy.

There's there is a, there is a material jump in leverage, but this would be a stronger company. It's a much larger company.

So even though leverage goes from one and a half to three and a half times, I think given the EPS secretion dilution given the strategic strength of the transaction, it would be a good deal.

So that's how I would kind of triangulate.

I wouldn't just go for the maximum EPS acquisition dilution because you're gonna really upset the debt markets and if you do that then that'll have a knock on effect to how the equity market sees the transaction as well.

Now we are not quite finished because what we also have to do is look at we the value creation and the return on invested capital. Um, so if I come down here we think yeah we do have a return invested capital, but let me do the synergy analysis first.

So another way of evaluating the transaction is to take a look at the synergies. So what I'm gonna do is I'm gonna pull in the revenue synergies. These come all come from the calculation sheet.

I personally think revenue synergies are a bit dodgy because frankly the synergies and it's gonna be difficult for the market to justify all the, to accept revenue synergies. I'm not saying it wouldn't happen, but I do think that that's kind of, it's gonna be a little bit problematic to get synergies from things like revenues because revenues are, you know, uncertain, you haven't got those revenues yet. If they're synergies, cost synergies a lot less uncertain because you can actually model the cost reduction.

So if I go and get the costings here, these are much more significant, which is good.

And then we've also got some CapEx synergies because as a combined business you can probably afford to spend less on CapEx.

So I'm gonna go down and get my CapEx synergies, pull those in and then I've got the reduction in depreciation due to CapEx synergies. So I'm gonna go and get that um, and go and get that 15 number down here.

And then I've got my restructuring costs as well.

So my restructuring costs again comes from my calculations.

So I'm gonna go and get the restructuring costs there. So these are the costs.

So I'm gonna do like a mini DCF here of this analysis.

So I'm just gonna sum that up.

So those are the cash savings that I've got there. Okay.

And then I am going to take the tax impact of the above.

So I'm just gonna get the revenue syns, cost synge, ignore the CapEx synge, but I'll add the other two items and then multiply that by the tax rate.

So I'm gonna come down here and I'll get that module tax rate for NewCo, I then copy that, right? And let me just make that negative. There we go.

And then finally, not finally do my cash free cash flow.

So I'm gonna pull in the revenue syns, I'm gonna pull in the cost syns, I'm gonna pull in the CapEx syns reduction depreciation and restructuring costs.

It's a little bit repetitive and then the tax and then the cashflow. So this is the improved cashflow that we are getting as a consequence of the transaction. Okay, so I'm gonna pull that in then I'm just gonna copy this down.

And then what I'm going to do is do a quick DCF. So I'll do my terminal value.

So I'll take the funnel cashflow times one plus long-term growth rate, um, divide by the discount rate. Now discount rate needs to be the targets discount rate, okay? This is the targets discount rate, okay that's the targets discount rate.

And then I'm going to get net present value the inges. And I'm gonna do some really naughty and easy, just do an NPV, don't kill me for that.

And I'll take the discount rate and then I'll present value those cash cash savings.

So I get about 2.7 billion there. Okay? And then I'm gonna get the present value of the terminal value and I'll just take that divided by one plus the discount rate to the power of, in this case four years. And I'll get that. Um, that's my present value.

And then what I'm going to do is sum it up to get the net present value syns.

Now what I'm gonna do is compare that to the control premium.

So in this case what we're doing is we're saying look, we are paying a control premium for this and let's see how much the control premium was.

So I'm gonna go to my assumptions and we will have a um, premium paid up here.

So we've got the offer premium 43%. So if I just take the, let just take the delta in a per per share basis, this will make it a bit easier.

So I'll take the offer price minus the unaffected share price and I'll just multiply that by the diluted shares outstanding.

And I get a total amount of about 17 billion.

So in this case you can see that actually we have created some value, but frankly I wouldn't be happy as an investor with that.

And lemme explain why you are paying a premium to the target shareholders here and in this case you are paying a premium 'cause you're getting control.

By getting control, you can extract synergy benefits.

Those synergy benefits are valued at about 17.3.

Those synergies aren't completely sure, okay? They're not actual cash flows, they're not even kind of fork, they're not even kind of cash flows that will exist today that you are growing.

These are cash flows that are not, haven't been extracted yet.

So there's some uncertainty about that. Secondly, the vast in this deal, the vast majority of that value is being handed over as a premium to the target shareholders. So you've got, if you think about how this, this value is split one set of shareholders, the target shareholders is getting, in this case 95.5% of that premium and they're getting shares in the combined company.

So they're double dipping not only getting 95% of the premium, they're also getting benefit of those synergies because they're still a shareholder. 'cause they didn't all, they didn't get all cash.

So I would be looking at this as a shareholder in bayan thinking, whoa, come on, we're handing 90% of the control premium to Monsanto shareholders and they are benefiting the synge 'cause they're getting a share of the overall company. Because remember when we did the analysis, they are owning um, 36.8% of the combined entity, which means that they're getting a share of the synge.

It's called double dipping. So it's unlikely I think.

So this actually from a kind of prison value point of view doesn't look great because so much of the value is going to the Monsanto shareholders and they're adding, they're getting the benefits 'cause they're shareholders in the combined entity as well. So that would be a problem. However, the caveat to this is that sometimes that you could view as Bayer, you could say look, Monsanto is just cheap.

It's trading on a low multiple and it's got great growth and great margins. So therefore we think the company is actually undervaluing Monsanto at the current price.

And that's why we're willing to pay such a high premium because although we're giving away most of the premium, most of the inges in the premium, actually we think Monsanto is cheap. So that's the reason why you, this would be a good deal under this basis that you think the asset, the target company's actually relatively cheap and that's why we're prepared to pay over the whole premium. But it would be um, a big deal.

Now have we got just enough time to do the return on investor capital? So what I'm gonna do here is I'm gonna pull in the returns, the notepad and the notepad is made out of the Monsanto ebit, okay? Just as just the target.

So what need to only looking at just the target here. So I'm gonna go to the Monsanto EBIT in 2017.

So I'm gonna pull that it's about 3.1 billion and then the synergies, I'm excluding CapEx syns 'cause they don't have an income stat income statement impact. In fact, I need to move this to the right, there we go. Being a bit of a bad boy there. And then, so I'm, I'm gonna take syn excluding CapEx syn, let me go up and get these revenue cost comma and then I'm gonna pull in those two. Let me just see, I'm think we are not going to, yeah, I'm just, yeah, no that's right.

That is right. So that's one 90 and then that's going to be the pro forma ebit.

Now arguably you may not want to include those um, restructuring costs, but if I just do the mons tax on Monsanto, ebit, so I'm go into the assumptions and I'll take the target tax rate, which is down below. I'm gonna use the marginal tax rate.

I know that's a bit naughty, but it's just for ease here.

And then, oh that's just on the ebit. Yeah, okay, I'm just gonna do that. And then the proforma, I've just done a simplification there. I know that's a bit naughty to do that.

I should have done the average, the effective tax rate, but just in the stress of time, we don't have very much time.

We're running near the hour. So just gimme a little bit of a break there.

So that's the, no pat. Now then the invested capital, what we do is we start with the enterprise value, the acquisition enterprise value.

So I'll go to the assumptions and I want to get the acquisition enterprise value.

So I'm going to pull in the total, um, uses of funds and what that will do, I'll need to do it in euros because I'm using the Euro earnings for the target. So I'm gonna take the 61 number.

I do want to include the fees because those are the fees that are happening here.

And so I'm gonna take the 60.19 and that's my started investing capital.

So my started investing capital is that, and then the beginning investment capital is equal to that.

But in the next year what happens is you are also going to have to add to that invested capital. 'cause if you have CapEx, then you need to add in the CapEx number from above.

So what I'm gonna do is I'm gonna go to the ization and I'm gonna go down to the cashflow statement we go, which is gonna be the ratios.

So I'm gonna come down, where's my, oh, I don't have a cashflow statement so I'm gonna have to calculate that. I, I do have a cash statement. Here we go. Um, opening cashflow, I've just done cash flow, that's really annoying. So I'm gonna have to go and do this. Uh, we don't, oh that's really annoying.

Really annoying. So in this case, lemme just see if I've got, yeah, I've got what I'm gonna do some simplistic, I'm actually gonna just take the delta in net pp e, the change in net PP and E because rather than add depreciation and CapEx.

So I'm just gonna take the increase how much we've invested in pp and E between um, the 18 and 17 years.

Okay? So that's how much we've invested.

And then we've also got any other capital that we've invested in the working capital, other assets, long-term liabilities.

So I'm just going to sum up those assets quickly and I'm gonna see if they've got a working capital calculation.

So I'll tell you what I'm going to do for simplicity is I'm just gonna sum up all these items here. Here we go on the cashflow demo. That's how much we've invested. There we go. So I'm gonna pull those in.

Okay? And that's a negative five.

We go 5.7 and then what I'm going to do is add that up because your invested capital does change.

So in this case what's happening is we are investing more in the business.

Now that was a cash flow number, so I'm just gonna change it sign.

So we've invested an additional 334 million in PP E and we've added an additional 5.7 million in working capital, other assets and other liabilities.

Then I'm gonna calculate my return investor capital, which is going to be my notepad.

And arguably you could use an average if you want to.

Um, or sometimes people use the beginning balance.

So I'm just gonna use an average here and this gives me a 3.5%.

So this is pretty pitiful compared to our WAC number.

So you can do kind of value added here or destroyed by taking the difference between your return minus what cost of capital times your capital number. And that's actually how much value you are destroying in that year from a kind of economic value added basis.

So you saw in the prior press release the return invested capital. So what we're saying is actually on a return invested capital, we're getting a pretty pitiful amount, but remember the synergies are growing.

So actually what we should do is we should look at this not just in one year, but as a progression over time. And you can see that actually over time we do start to reach the Monsantos whack, but we don't really get that even after four years.

And I think probably investors would be concerned about that.

So this deal from an accretion dilution point of view looks great.

But remember that's not always good when you're comparing earnings on a more fundamental level, you would have to agree that the target company would be undervalued to justify paying all that premium, all their synergy value away in the control premium.

And as a return on invested capital, the deal doesn't look actually very attractive.

So although this is EPS secretion, accretive actually from a fundamental analysis of things like return invested capital and the value of the syns versus the premium paid, this doesn't look like such a great transaction.

So just to recap, I know we covered a lot today, but you can look at accretion dilution, but be very careful.

You need to do a careful analysis of the quality of earnings because classic EPS secretion, dilution only works where you've got two companies, which who have got very, very similar quality of earnings.

Secondly, we did the analysis of the leverage and the initial cut was a massive increase in leverage from about one and a half times to four, about over four times too high.

I would be comfortable with more like two and a half to three and a half or an a, a regular industrial company because that's, well that's well within the investment grade credit rating.

Then we looked and did the kind of DCF of the synergies and we realized that actually of that premium, all the syn numbers, all the synergy benefits were being paid out as a premium.

And you'd only do that if you thought Monsanto was fundamentally cheap.

And then we are looking at the return, we're getting on the price paid actually it's pretty poultry and even after four years you are not achieving a return in accessory cost of capital.

So I hope that's been useful. If you want to get the answer file for this, just download it from the resources or go to Felix life. Um, thank you so much for your time. Just to remind you, next week, Um, we go away from a cadence of m and a, um, and we go, we've got a lateral high program running actually interspersed with this on Wednesdays, but we go to completion mechanics and that's looking at things like locked box mechanisms or completion accounts and why you'd prefer to use one or the other. But thank you So much for joining me today. I hope you have a wonderful Weekend. Thank you so much.