Merger Model Questions – Basic Questions & Answers 100% Correct!!
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Merger Model
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Merger Model
Walk me through a basic merger model. - ANSWER "A merger model is used to analyze the financial profiles of 2 companies, the purchase price and how the purchase is made, and determines whether the buyer's EPS increases
or decreases.
Step 1 is making assumptions about the acquisition - the pric...
Merger Model Questions – Basic
Questions & Answers 100% Correct!!
Walk me through a basic merger model. - ANSWER "A merger model is used to analyze the financial
profiles of 2 companies, the purchase price and how the purchase is made, and determines whether
the buyer's EPS increases
or decreases.
Step 1 is making assumptions about the acquisition - the price and whether it was cash, stock or debt
or some combination of those. Next, you determine the valuations and shares outstanding of the
buyer and seller and project out an Income Statement for each
one.
Finally, you combine the Income Statements, adding up line items such as Revenue andOperating
Expenses, and adjusting for Foregone Interest on Cash and Interest Paid on
Debt in the Combined Pre-Tax Income line; you apply the buyer's Tax Rate to get the Combined Net
Income, and then divide by the new share count to determine the combined EPS."
What's the difference between a merger and an acquisition? - ANSWER There's always a buyer and a
seller in any M&A deal - the difference between "merger" and "acquisition" is more semantic than
anything. In a merger the companies are close
to the same size, whereas in an acquisition the buyer is significantly larger.
Why would a company want to acquire another company? - ANSWER Several possible reasons:
• The buyer wants to gain market share by buying a competitor.
• The buyer needs to grow more quickly and sees an acquisition as a way to do that.
• The buyer believes the seller is undervalued.
• The buyer wants to acquire the seller's customers so it can up-sell and cross-sell to them.
, • The buyer thinks the seller has a critical technology, intellectual property or some
other "secret sauce" it can use to significantly enhance its business.
• The buyer believes it can achieve significant synergies and therefore make the deal accretive for its
shareholders.
Why would an acquisition be dilutive? - ANSWER An acquisition is dilutive if the additional amount
of Net Income the seller contributes is not enough to offset the buyer's foregone interest on cash,
additional interest paid on
debt, and the effects of issuing additional shares.
Acquisition effects - such as amortization of intangibles - can also make an acquisition dilutive.
Is there a rule of thumb for calculating whether an acquisition will be accretive or dilutive? - ANSWER
If the deal involves just cash and debt, you can sum up the interest expense for debt and the
foregone interest on cash, then compare it against the seller's Pre-Tax Income.
And if it's an all-stock deal you can use a shortcut to assess whether it is accretive (see question #5).
But if the deal involves cash, stock, and debt, there's no quick rule-of-thumb you can use unless
you're lightning fast with mental math.
A company with a higher P/E acquires one with a lower P/E - is this accretive or dilutive? - ANSWER
Trick question. You can't tell unless you also know that it's an all-stock deal. If it's an all-cash or all-
debt deal, the P/E multiples of the buyer and seller don't matter because no stock is being issued.
Sure, generally getting more earnings for less is good and is more likely to be accretive but there's no
hard-and-fast rule unless it's an all-stock deal.
What is the rule of thumb for assessing whether an M&A deal will be accretive or dilutive? - ANSWER
In an all-stock deal, if the buyer has a higher P/E than the seller, it will be accretive; if the buyer has a
lower P/E, it will be dilutive.
On an intuitive level if you're paying more for earnings than what the market values your own
earnings at, you can guess that it will be dilutive; and likewise, if you're paying less for earnings than
what the market values your own earnings at, you can guess that it would be accretive.
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