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Investment Banking: Valuation, Leveraged Buyouts, and Mergers and Acquisitions, 2nd Edition

ISBN: 978-1-118-65621-1
456 pages
May 2013
Investment Banking: Valuation, Leveraged Buyouts, and Mergers and Acquisitions, 2nd Edition (1118656210) cover image

Description

The No. 1 guide to investment banking and valuation methods, including online tools

In the constantly evolving world of finance, a solid technical foundation is an essential tool for success. Until the welcomed arrival of authors Josh Rosenbaum and Josh Pearl, no one had taken the time to properly codify the lifeblood of the corporate financier?s work?namely, valuation, through all of the essential lenses of an investment banker. With the release of Investment Banking, Second Edition: Valuation, Leveraged Buyouts, and Mergers & Acquisitions, Rosenbaum and Pearl once again have written the definitive book that they wish had existed when they were trying to break into Wall Street. The Second Edition includes both the technical valuation fundamentals as well as practical judgment skills and perspective to help guide the science. This book focuses on the primary valuation methodologies currently used on Wall Street: comparable companies analysis, precedent transactions analysis, discounted cash flow analysis, and leveraged buyout analysis. With the new fully revised edition, they have added the most comprehensive, rigorous set of intuition-building and problem-solving ancillaries anywhere?all of which promised to become essential, knowledge enhancing tools for professionals, and professors and students.

For those who purchase this edition of the book, there are options to purchase the Valuation Models separately (9781118586167), and to also consider purchase of the Investing Banking Workbook (9781118456118) and Investment Banking Focus Notes (9781118586082) for further self-study.

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Table of Contents

Additional Resources xiii

About the Authors xv

Foreword xvii

Acknowledgments xix

INTRODUCTION 1

Structure of the Book 3

Part One: Valuation (Chapters 1–3) 3

Part Two: Leveraged Buyouts (Chapters 4 & 5) 5

Part Three: Mergers & Acquisitions (Chapters 6 & 7) 6

ValueCo Summary Financial Information 8

PART ONE: Valuation 11

CHAPTER 1: Comparable Companies Analysis 13

Summary of Comparable Companies Analysis Steps 14

Step I. Select The Universe of Comparable Companies 17

Study the Target 17

Identify Key Characteristics of the Target for Comparison Purposes 18

Screen for Comparable Companies 22

Step II. Locate The Necessary Financial Information 23

SEC Filings: 10-K, 10-Q, 8-K, and Proxy Statements 24

Equity Research 25

Press Releases and News Runs 26

Financial Information Services 26

Summary of Financial Data Primary Sources 27

Step III. Spread Key Statistics, Ratios, and Trading Multiples 28

Calculation of Key Financial Statistics and Ratios 28

Supplemental Financial Concepts and Calculations 42

Calculation of Key Trading Multiples 47

Step IV. Benchmark the Comparable Companies 50

Benchmark the Financial Statistics and Ratios 50

Benchmark the Trading Multiples 50

Step V. Determine Valuation 51

Valuation Implied by EV/EBITDA 52

Valuation Implied by P/E 52

Key Pros and Cons 54

Illustrative Comparable Companies Analysis for ValueCo 55

Step I. Select the Universe of Comparable Companies 55

Step II. Locate the Necessary Financial Information 56

Step III. Spread Key Statistics, Ratios, and Trading Multiples 57

Step IV. Benchmark the Comparable Companies 69

Step V. Determine Valuation 74

Bloomberg Appendix 75

Chapter 2: Precedent Transactions Analysis 83

Summary of Precedent Transactions Analysis Steps 84

Step I. Select the Universe of Comparable Acquisitions 87

Screen for Comparable Acquisitions 87

Examine Other Considerations 88

Step II. Locate the Necessary Deal-Related and Financial Information 90

Public Targets 90

Private Targets 93

Summary of Primary SEC Filings in M&A Transactions 93

Step III. Spread Key Statistics, Ratios, and Transaction Multiples 96

Calculation of Key Financial Statistics and Ratios 96

Calculationof Key Transaction Multiples 102

Step IV. Benchmark the Comparable Acquisitions 106

Step V. Determine Valuation 106

Key Pros And Cons 107

Illustrative Precedent Transaction Analysis for ValueCo 108

Step I. Select the Universe of Comparable Acquisitions 108

Step II. Locate the Necessary Deal-Related and Financial Information 108

Step III. Spread Key Statistics, Ratios, and Transaction Multiples 111

Step IV. Benchmark the Comparable Acquisitions 119

Step V. Determine Valuation 121

Bloomberg Appendix 122

Chapter 3: Discounted Cash Flow Analysis 125

Summary of Discounted Cash Flow Analysis Steps 126

Step I. Study the Target and Determine Key Performance Drivers 130

Study the Target 130

Determine Key Performance Drivers 130

Step II. Project Free Cash Flow 131

Considerations for Projecting Free Cash Flow 131

Projection of Sales, EBITDA, and EBIT 133

Projection of Free Cash Flow 135

Step III. Calculate Weighted Average Cost of Capital 141

Step III(a): Determine Target Capital Structure 142

Step III(b): Estimate Cost of Debt (rd) 143

Step III(c): Estimate Cost of Equity (re) 144

Step III(d): Calculate WACC 148

Step IV. Determine Terminal Value 148

Exit Multiple Method 149

Perpetuity Growth Method 149

Step V. Calculate Present Value and Determine Valuation 151

Calculate Present Value 151

Determine Valuation 153

Perform Sensitivity Analysis 155

Key Pros and Cons 156

Illustrative Discounted Cash Flow Analysis for ValueCo 157

Step I. Study the Target and Determine Key Performance Drivers 157

Step II. Project Free Cash Flow 157

Step III. Calculate Weighted Average Cost of Capital 164

Step IV. Determine Terminal Value 169

Step V. Calculate Present Value and Determine Valuation 171

Bloomberg Appendix 176

PART TWO: Leveraged Buyouts 183

Chapter 4: Leveraged Buyouts 185

Key Participants 187

Financial Sponsors 187

Investment Banks 188

Bank and Institutional Lenders 190

Bond Investors 191

Target Management 191

Characteristics of a Strong LBO Candidate 192

Strong Cash Flow Generation 193

Leading and Defensible Market Positions 193

Growth Opportunities 194

Efficiency Enhancement Opportunities 194

Low Capex Requirements 194

Strong Asset Base 195

Proven Management Team 195

Economics of LBOs 196

Returns Analysis—Internal Rate of Return 196

Returns Analysis—Cash Return 197

How LBOs Generate Returns 197

How Leverage Is Used to Enhance Returns 198

Primary Exit/Monetization Strategies 202

Sale of Business 202

Initial Public Offering 203

Dividend Recapitalization 203

Below Par Debt Repurchase 203

LBO Financing: Structure 204

LBO Financing: Primary Sources 207

Bank Debt 207

High Yield Bonds 211

Mezzanine Debt 213

Equity Contribution 214

LBO Financing: Selected Key Terms 217

Security 217

Seniority 217

Maturity 219

Coupon 219

Call Protection 220

Covenants 221

Term Sheets 224

LBO Financing: Determining Financing Structure 227

Bloomberg Appendix 232

Chapter 5: LBO Analysis 235

Financing Structure 235

Valuation 235

Step I. Locate and Analyze the Necessary Information 238

Step II. Build the Pre-LBO Model 238

Step II(a): Build Historical and Projected Income Statement through EBIT 239

Step II(b): Input Opening Balance Sheet and Project Balance Sheet Items 242

Step II(c): Build Cash Flow Statement through Investing Activities 244

Step III. Input Transaction Structure 247

Step III(a): Enter Purchase Price Assumptions 247

Step III(b): Enter Financing Structure into Sources and Uses 249

Step III(c): Link Sources and Uses to Balance Sheet Adjustments Columns 251

Step IV. Complete the Post-LBO Model 256

Step IV(a): Build Debt Schedule 256

Step IV(b): Complete Pro Forma Income Statement from EBIT to Net Income 265

Step IV(c): Complete Pro Forma Balance Sheet 268

Step IV(d): Complete Pro Forma Cash Flow Statement 270

Step V. Perform LBO Analysis 272

Step V(a): Analyze Financing Structure 272

Step V(b): Perform Returns Analysis 274

Step V(c): Determine Valuation 278

Step V(d): Create Transaction Summary Page 279

Illustrative LBO Analysis for ValueCo 280

Bloomberg Appendix 290

PART THREE: Mergers & Acquisitions 293

Chapter 6: Sell-Side M&A 295

Auctions 296

Auction Structure 299

Organization and Preparation 299

Identify Seller Objectives and Determine Appropriate Sale Process 299

Perform Sell-Side Advisor Due Diligence and Preliminary Valuation Analysis 301

Select Buyer Universe 301

Prepare Marketing Materials 302

Prepare Confidentiality Agreement 305

First Round 306

Contact Prospective Buyers 306

Negotiate and Execute Confidentiality Agreement with Interested Parties 306

Distribute Confidential Information Memorandum and Initial Bid Procedures Letter 306

Prepare Management Presentation 308

Set up Data Room 309

Prepare Stapled Financing Package 311

Receive Initial Bids and Select Buyers to Proceed to Second Round 311

Valuation Perspectives—Strategic Buyers vs. Finacial Sponsors 312

Second Round 313

Conduct Management Presentations 313

Facilitate Site Visits 314

Provide Data Room Access 314

Distribute Final Bid Procedures Letter and Draft Definitive Agreement 315

Receive Final Bids 316

Negotiations 320

Evaluate Final Bids 320

Negotiate with Preferred Buyer(s) 320

Select Winning Bidder 320

Render Fairness Opinion 321

Receive Board Approval and Execute Definitive Agreement 321

Closing 322

Obtain Necessary Approvals 322

Shareholder Approval 322

Financing and Closing 324

Negotiated Sale 325

Bloomberg Appendix 327

Chapter 7: Buy-Side M&A 331

Buyer Motivation 332

Synergies 333

Cost Synergies 334

Revenue Synergies 334

Acquisition Strategies 335

Horizontal Integration 335

Vertical Integration 335

Conglomeration 336

Form of Financing 337

Cash on Hand 338

Debt Financing 338

Equity Financing 339

Debt vs. Equity Financing Summary—Acquirer Perspective 340

Deal Structure 340

Stock Sale 340

Asset Sale 343

Stock Sales Treated as Asset Sales for Tax Purposes 346

Section 338 Election 346

338(h)(10) Election 346

Buy-Side Valuation 348

Football Field 349

Analysis at Various Prices 352

Contribution Analysis 353

Merger Consequences Analysis 355

Purchase Price Assumptions 355

Balance Sheet Effects 360

Accretion/(Dilution) Analysis 365

Acquisition Scenarios—I) 50% Stock / 50% Cash; II) 100% Cash; and III) 100% Stock 368

Illustrative Merger Consequences Analysis for the BuyerCo / ValueCo Transaction 373

Bloomberg Appendix 394

Afterword 397

Bibliography and Recommended Reading 399

Index 405

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Author Information

Joshua Rosenbaum is a Managing Director at UBS Investment Bank in the Global Industrial Group. He originates, structures, and advises on M&A, corporate finance, and capital markets transactions. Previously, he worked at the International Finance Corporation, the direct investment division of the World Bank. He received his AB from Harvard and his MBA with Baker Scholar honors from Harvard Business School.

Joshua Pearl is an investment analyst at Brahman Capital Corp. Previously, he structured and executed leveraged loan and high yield bond financings, as well as leveraged buyouts and restructurings as a Director at UBS Investment Bank in Leveraged Finance. Prior to UBS, he worked at Moelis & Company and Deutsche Bank. He received his BS in Business from Indiana University's Kelley School of Business.

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Press Release

May 16, 2013
Wiley Updates its Global Best-Seller, Investment Banking

The global best-selling book on investment banking and valuation used by students, bankers, investors, professors, and finance professionals around the world is out with a new second edition.

In INVESTMENT BANKING: Valuation, Leveraged Buyouts, and Mergers & Acquisitions, Second Edition, (Wiley; June 2013; $95.00; Hardcover and E-book formats), authors Joshua Rosenbaum and Joshua Pearl update and expand upon their landmark work that has been helping readers land their dream jobs on Wall Street. The second edition reflects the new reality of the post-financial crisis world, including a timely update on valuation levels and perspectives, LBOs, and M&A. Its release is also accompanied by a new university edition geared towards the classroom, as well as a complementary workbook and focus notes for self-instruction and study.

Per the authors: "We're extremely excited to be working with Wiley once again, and we're thrilled to be partnering with Bloomberg, the world's leading financial data and analytics provider; Intralinks, an industry leading virtual data room provider; and The Corporate Presence, the global leader in the custom design and manufacturing of deal toys."

The release of the second edition is particularly timely given the need to stay current with the constantly evolving world of finance. A solid technical foundation is an essential tool for success for breaking into, succeeding, and advancing in the fast-paced world of Wall Street. Prior to Rosenbaum and Pearl, however, no one had taken the time and effort to properly codify the lifeblood of the corporate financier’s work—namely, valuation. Rosenbaum and Pearl have responded to this need by writing the book that they wish had existed when they were trying to break into Wall Street.

Highly accessible and authoritative, INVESTMENT BANKING focuses on the primary valuation methodologies currently used on Wall Street—comparable companies, precedent transactions, DCF, and LBO analysis—as well as M&A analysis. Using a step-by-step how-to approach for each methodology, the authors build a chronological knowledge base and define key terms, financial concepts, and processes throughout the book.

Here is what’s new for the second edition:

  • A brand new, 65-page chapter on buy-side M&A
  • Fully revised chapters complete with new Bloomberg analytics and data
  • Best practices for building a data room, provided by Intralinks
  • Completely updated LBO chapter with new content and charts
  • New afterword by Joshua Harris, Co-Founder of Apollo Global Management
  • New ancillary products include: 1) four revised valuation models and one entirely new M&A model, 2) Investment Banking Workbook, 3) Investment Banking Focus Notes, and 4) a full suite of instructor resources (presentations, case studies, test bank, and videos)

 

From the Foreword

“Rosenbaum and Pearl succeed in providing a systematic approach to addressing a critical issue in any M&A, IPO, or investment situation—namely, how much is a business or transaction worth. They also put forth the framework for helping approach more nuanced questions such as how much to pay for the business and how to get the deal done. Due to the lack of a comprehensive written reference material on valuation, the fundamentals and subtlety of the trade are often passed on orally from banker-to-banker on a case-by-case basis. In codifying the art and science of investment banking, the authors convert this oral history into an accessible framework by bridging the theoretical to the practical with user-friendly, step-by-step approaches to performing primary valuation methodologies.”

Joseph R. Perella, Chairman and CEO, Perella Weinberg Partners

From the Afterword

I have personally been involved in the successful execution of hundreds of M&A and LBO transactions over the past 25 years and I recommend this book to advisors, financiers, practitioners, and anyone else interested in investment transactions. Rosenbaum and Pearl have created a comprehensive, yet highly accessible, written guide to the core skills of the successful investment professional, with a particular emphasis on valuation analysis.

Josh Harris, Co-Founder and Managing Partner Apollo Global Management, LLC

 

Testimonials

"This book will surely become an indispensable guide to the art of buyout and M&A valuation, for the experienced investment practitioner as well as for the non-professional seeking to learn the mysteries of valuation."

David M. Rubenstein, Co-Founder and Managing Director, The Carlyle Group

"Investment Banking provides a highly practical and relevant guide to the valuation analysis at the core of investment banking, private equity, and corporate finance. Mastery of these essential skills is fundamental for any role in transaction-related finance. This book will become a fixture on every finance professional's bookshelf."

Thomas H. Lee, President, Lee Equity Partners, LLC
    Founder, Thomas H. Lee Capital Management, LLC

“The two Joshes present corporate finance in a broad, yet detailed framework for understanding valuation, balance sheets, and business combinations. As such, their book is an essential resource for understanding complex businesses and capital structures whether you are on the buy-side or sell-side.”

Mitchell R. Julis, Co-Chairman and Co-CEO, Canyon Partners, LLC

“As a new generation of students prepare to enter Wall Street, a sound technical foundation is more essential now than ever. Rosenbaum and Pearl have drawn from their broad deal experience and extensive network to create the best valuation and deal guidebook in the world.”

Alan C. “Ace” Greenberg, Vice Chairman Emeritus, JP Morgan Chase & Co.
    Former CEO (’78-’93) and Chairman of the Board (’85-’01), Bear Stearns
    Author, The Rise and Fall of Bear Stearns and Memos from the Chairman 

"Investment banking requires a skill set that combines both art and science. While numerous textbooks provide students with the core principles of financial economics, the rich institutional considerations that are essential on Wall Street are not well documented. This book represents an important step in filling this gap."

Josh Lerner, Jacob H. Schiff Professor of Investment Banking, Harvard Business School

    Coauthor, Venture Capital and Private Equity: A Casebook


"Valuation is the key to any transaction. Investment Banking provides specific step-by-step valuation procedures for LBO and M&A transactions, with lots of diagrams and numerical examples."

Roger G. Ibbotson, Professor in the Practice of Finance, Yale School of Management

    Chairman & CIO, Zebra Capital Management, LLC

    Founder & Advisor, Ibbotson Associates, a Morningstar Company

“Investment Banking provides fresh insight and perspective to valuation analysis, the basis for every great trade and winning deal on Wall Street. The book is written from the perspective of practitioners, setting it apart from other texts.”

Gregory Zuckerman, Special Writer, The Wall Street Journal

    Author, The Greatest Trade Ever

 

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