Company Valuation Under IFRS : Interpreting and Forecasting ...

Company valuation under IFRS
As with general company modelling and valuation, it is important to have both
an understanding of the accounting issues involved, and to be able to make
reasonable inferences regarding valuation. This chapter began with an
explanation of the accounting treatment under IFRS of the consolidation and
deconsolidation of the elements of a group. We shall now discuss in some detail
the valuation and accounting implications of corporate acquisitions, since these
represent the most dramatic and complex issues from the perspective of
valuation, and they arise quite regularly.
9.1 Valuing an acquisition
Generally, one models a company first and values it afterwards. With mergers it
is the other way round. The starting point is whether or not a bid is a good idea,
and how much it would be worth paying, if you are acting for the bidder. If you
are an investor and a bid has been announced, again, the key question is whether
or not it will add value after taking the consideration into account.
But consolidated accounts do matter. There are proforma balance sheet structures
that are quite simply unworkable. Whatever the theoretical arguments about how
impact on earnings per share is unimportant, the reality is that a severe negative
impact will at least have to be sold carefully to shareholders, and possibly also to
the Board of the bidding company, whether or not it makes purely economic sense.
So our starting point is the value of the target, but there are two possible
differences with respect to this exercise and the ones that we undertook in
Chapters five and six. The first is that acquisitions are generally motivated at
least in part by the prospect of synergies. And the second is that the financing of
the acquisition may mean that the capital structure of the target will be
transformed by the acquisition. An extreme example of the latter point is the
leveraged buy-out, where much of the upside from the deal may lie in the
creation of large tax shelters.
Starting with synergies, these generally come in one of three types: enhancement
of revenue; reduction in operating cost; or reduction in capital costs. Revenue
enhancement might most likely result from cross-selling opportunities, either
because of the ability to sell products in different geographical locations, or
because of the ability to cross-sell products to existing customers of two different
businesses. Pharmaceuticals mergers offered the former synergy. Bancassurance
mergers offer the latter. Pricing power may also result from mergers but for antitrust
reasons is never cited as a motive.
Cost reduction is most obviously achievable at the level of head office costs and
layers of management, but may also extend to procurement, and to a general fall
in fixed costs relative to the overall size of the business. Mergers in businesses
including retail, downstream oil, utilities, and many others have been primarily
motivated by these expectations.
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