- July 28, 2022
- Posted by: Ramkumar
- Category: Posts
Shareholder Value At Risk (SVAR) in M&A
One of the mysteries in mergers and acquisitions deals, in my experience, is to 𝐣𝐮𝐬𝐭𝐢𝐟𝐲 𝐚𝐧 𝐚𝐜𝐪𝐮𝐢𝐬𝐢𝐭𝐢𝐨𝐧 𝐩𝐫𝐞𝐦𝐢𝐮𝐦 𝐭𝐡𝐞 𝐬𝐞𝐥𝐥𝐞𝐫 𝐝𝐞𝐦𝐚𝐧𝐝𝐬 𝐚𝐠𝐚𝐢𝐧𝐬𝐭 𝐭𝐡𝐞 𝐞𝐱𝐩𝐞𝐜𝐭𝐞𝐝 𝐬𝐲𝐧𝐞𝐫𝐠𝐢𝐞𝐬 𝐟𝐫𝐨𝐦 𝐭𝐡𝐞 𝐭𝐫𝐚𝐧𝐬𝐚𝐜𝐭𝐢𝐨𝐧. Too often, the acquirer’s share price declines after the announcement of the merger (the recent example is the Zomato Blinkit merger) because of the following:
1)The buyer shareholders believe they have paid more.
2)The buyer shareholders think they cannot realize synergies that justify the premium.
In my experience of analyzing and closing multiple M&A deals, i focus on two things:
1)Shareholder Value at Risk (SVAR)
2)Revenues and Cost synergies the buyer must achieve to justify the premium
In this post, i will talk about SVAR.
Shareholder value at risk = Premium paid for the deal/Market price of the buyer pre-deal
For instance, if the buyer pays a 30% premium, the buyer’s market cap pre-deal is 1000, and the seller’s market cap pre-deal is 100,
Deal Value = 100(1+30%) = 130
Seller Value/Buyer value = 100/1000 = 10%
Shareholder value at risk = 10%30% = 3%
Thus, the buyer must achieve at least 3% of synergies to break even.
Therefore, the function of the buyer’s stock price movement post-deal announcement is a function of:
1)𝗧𝗵𝗲 𝗱𝗲𝗮𝗹 𝘃𝗮𝗹𝘂𝗲 – Higher the size of the seller relative to the buyer, the higher the risk
2)𝗣𝗿𝗲𝗺𝗶𝘂𝗺 – Higher the premium, the higher the risk
3)Synergies: How likely can buyers realize projected synergies? Here, the Market looks at the buyer’s track record to assess if the deal succeeds.
𝐀𝐬𝐬𝐮𝐦𝐞 𝐭𝐡𝐚𝐭 𝐭𝐡𝐞 𝐛𝐮𝐲𝐞𝐫 𝐮𝐬𝐞𝐬 𝐢𝐭𝐬 𝐬𝐭𝐨𝐜𝐤 𝐭𝐨 𝐩𝐚𝐲 𝐭𝐡𝐞 𝐭𝐚𝐫𝐠𝐞𝐭 𝐬𝐡𝐚𝐫𝐞𝐡𝐨𝐥𝐝𝐞𝐫𝐬:
In that case, the buyer’s stake in the combined firm = 1000/1130 = 88.5%
SVAR = 88.5%*3% = 2.65%
The buyer’s SVAR declines with the stock deal against cash deals because the target takes a specific risk in synergies realization.
However, stock deals send negative signals to investors as they assume:
1)Buyer issues its stocks because it is overvalued.
2)If the buyer is confident in realizing synergies, why does it wants to share benefits with the seller
Thus investors treat stock deals negatively compared to cash deals.
In my experience, such 𝘀𝘁𝗿𝗮𝘁𝗲𝗴𝗶𝗰 𝗮𝗻𝗮𝗹𝘆𝘀𝗶𝘀 𝗵𝗮𝘀 𝘀𝗶𝗴𝗻𝗶𝗳𝗶𝗰𝗮𝗻𝘁 𝗶𝗺𝗽𝗹𝗶𝗰𝗮𝘁𝗶𝗼𝗻𝘀 𝗳𝗼𝗿 𝗮 𝗯𝗼𝗮𝗿𝗱 𝗮𝘀𝘀𝗲𝘀𝘀𝗶𝗻𝗴 𝗮 𝗱𝗲𝗮𝗹’𝘀 𝘃𝗮𝗹𝘂𝗲, 𝗳𝗼𝗿 𝗶𝗻𝘁𝗲𝗴𝗿𝗮𝘁𝗶𝗼𝗻 𝗽𝗹𝗮𝗻𝗻𝗶𝗻𝗴, 𝗮𝗻𝗱 𝗴𝘂𝗶𝗱𝗮𝗻𝗰𝗲 𝗶𝗻 𝘄𝗿𝗶𝘁𝗶𝗻𝗴 𝗮 𝘄𝗶𝗻𝗻𝗶𝗻𝗴 𝗶𝗻𝘃𝗲𝘀𝘁𝗼𝗿 𝗽𝗿𝗲𝘀𝗲𝗻𝘁𝗮𝘁𝗶𝗼𝗻.