WEBVTT 1 00:00:00.240 --> 00:00:02.845 After having presented the two protagonists 2 00:00:02.985 --> 00:00:05.165 of the operation, the investor, 3 00:00:05.305 --> 00:00:08.405 and the target, we will now explore the four methods 4 00:00:08.705 --> 00:00:10.645 of account consolidation. 5 00:00:11.645 --> 00:00:13.165 Starting with the simplest of them, 6 00:00:13.785 --> 00:00:16.165 the investor takes a modest participation, 7 00:00:16.325 --> 00:00:20.725 I would say almost symbolic in the target for example, 8 00:00:20.865 --> 00:00:23.805 to help it in its operational develop mode. 9 00:00:24.105 --> 00:00:26.205 No real impact on the strategy 10 00:00:27.105 --> 00:00:29.085 nor on the operational decisions. 11 00:00:29.525 --> 00:00:34.205 A simple financial participation, a small equity stake, 12 00:00:34.465 --> 00:00:36.325 rather limited in its scale. 13 00:00:36.825 --> 00:00:39.685 In such a case, the first thing you have to do is to 14 00:00:40.525 --> 00:00:42.765 evaluate the company which is going to be acquired 15 00:00:43.345 --> 00:00:45.925 or in which somebody is going to take an equity stake. 16 00:00:46.295 --> 00:00:48.845 There are different methods, multiples, 17 00:00:49.245 --> 00:00:50.965 discounted cash flows and so on. 18 00:00:51.225 --> 00:00:52.685 And the objective of this course is not 19 00:00:52.685 --> 00:00:56.925 to explore these methods, but just to give the figure 20 00:00:57.105 --> 00:00:59.125 and then understand the financial 21 00:00:59.145 --> 00:01:00.765 and accounting implications. 22 00:01:01.705 --> 00:01:02.765 The equity assessment 23 00:01:02.865 --> 00:01:05.725 of the target gives a figure which is 300, which means 24 00:01:05.725 --> 00:01:08.165 that the shares are worth 300. 25 00:01:09.025 --> 00:01:12.205 Now, the enterprise value, very well known concept, 26 00:01:12.495 --> 00:01:15.445 which represent the value of the business operations 27 00:01:16.145 --> 00:01:20.045 equals the value of the equity plus the value of debt. 28 00:01:20.625 --> 00:01:23.645 You remember that capital employed net operating assets 29 00:01:24.205 --> 00:01:27.885 invested in business operations are financed by equity 30 00:01:28.025 --> 00:01:29.485 and debt, but the value 31 00:01:29.485 --> 00:01:33.165 of capital employed enterprise value is simply the value 32 00:01:33.165 --> 00:01:37.805 of equity in this case, 300 plus net financial debt, 20, 33 00:01:37.895 --> 00:01:39.885 which we calculated in the second module. 34 00:01:40.425 --> 00:01:42.965 The enterprise value is 320, 35 00:01:43.305 --> 00:01:45.485 and the capital employed, which you remember 36 00:01:46.165 --> 00:01:48.045 represents a net amount of money invested in business 37 00:01:48.045 --> 00:01:49.765 operations is 80. 38 00:01:50.065 --> 00:01:54.365 We calculated capital employed as equity plus debt, 39 00:01:54.495 --> 00:01:56.165 60 plus 2080. 40 00:01:56.915 --> 00:01:59.085 NASA is a very well-known multiple. 41 00:01:59.625 --> 00:02:01.965 You divide enterprise value, the value 42 00:02:01.965 --> 00:02:04.525 of business operations by capital employed the amount 43 00:02:04.525 --> 00:02:06.365 of money invested in business operations, 44 00:02:06.705 --> 00:02:10.125 and then you get 320 divided by 80, 45 00:02:10.975 --> 00:02:12.205 which is four. 46 00:02:12.915 --> 00:02:15.445 This is a very high figure because each 47 00:02:15.445 --> 00:02:17.405 and every dollar invested in business 48 00:02:17.405 --> 00:02:20.965 and operations has been transforming to $4 of value. 49 00:02:21.355 --> 00:02:23.125 This is a huge value creation. 50 00:02:23.505 --> 00:02:26.725 The direct consequence of a very profitable company, 51 00:02:27.105 --> 00:02:28.685 the return capital is high. 52 00:02:29.235 --> 00:02:30.885 This multiple is very high. 53 00:02:31.315 --> 00:02:35.725 This multiple is named market to book market value 54 00:02:35.785 --> 00:02:38.765 of capital employed, divided by book value 55 00:02:38.825 --> 00:02:41.805 of capital employed, and it's very documented 56 00:02:41.875 --> 00:02:44.805 that it's linked, strongly linked with the performance 57 00:02:44.805 --> 00:02:48.205 of the company, the return capital confronted 58 00:02:48.205 --> 00:02:49.245 with the cost of capital. 59 00:02:49.785 --> 00:02:53.605 Now, once we have assessed the value of the company, value 60 00:02:53.605 --> 00:02:56.885 of capital employed value of equity, we can go 61 00:02:56.885 --> 00:02:58.885 through the financial characteristics of 62 00:02:58.885 --> 00:02:59.885 The the transaction. 63 00:02:59.945 --> 00:03:02.845 Now to explore the first method of consolidation, 64 00:03:03.265 --> 00:03:04.445 we are going to consider 65 00:03:04.445 --> 00:03:08.165 that the investor takes a 10% equity stake. 66 00:03:09.175 --> 00:03:11.805 There won't be any capital increase. 67 00:03:12.505 --> 00:03:15.165 The investor does not need to make any capital increase 68 00:03:15.165 --> 00:03:16.245 because the amount 69 00:03:16.245 --> 00:03:19.765 of cash in the balance sheet is already very high 70 00:03:20.065 --> 00:03:22.685 and high enough to finance the acquisition, 71 00:03:23.465 --> 00:03:26.405 but the target is not going to make any capital increase, 72 00:03:26.495 --> 00:03:28.965 which basically means that the shares which are going 73 00:03:28.965 --> 00:03:32.925 to be acquired by the investor are shares which are sold 74 00:03:33.065 --> 00:03:35.525 by the current existing shareholders. 75 00:03:36.055 --> 00:03:39.125 There is no new shares issued by the company. 76 00:03:39.635 --> 00:03:42.845 It's just a secondary market which offer the current 77 00:03:42.845 --> 00:03:46.085 shareholders the opportunity to sell some of their shares. 78 00:03:46.835 --> 00:03:48.085 What about the cash out? 79 00:03:48.185 --> 00:03:52.565 The disbursement for the investor is simply 10% equity stake 80 00:03:53.045 --> 00:03:55.085 multiplied by the value of 300. 81 00:03:55.555 --> 00:03:57.325 It's a cash out of 30. 82 00:03:57.625 --> 00:03:59.845 To make it simple, we are going to take as an assumption 83 00:03:59.875 --> 00:04:03.165 that the operation is carried out on the 1st of January 84 00:04:03.305 --> 00:04:05.485 of year n plus one. 85 00:04:05.945 --> 00:04:09.485 You remember I presented the accounts at the end of year N 86 00:04:10.155 --> 00:04:12.245 immediately after on the 1st of January. 87 00:04:12.425 --> 00:04:16.685 The first thing you do is you make an equity stake of 10%, 88 00:04:16.785 --> 00:04:18.685 and we are going to see immediately the 89 00:04:18.685 --> 00:04:20.085 impact on the balance sheet. 90 00:04:20.345 --> 00:04:23.845 So the process will consist in first building the balance 91 00:04:23.845 --> 00:04:27.605 sheet on the 1st of January year and plus one immediately 92 00:04:27.605 --> 00:04:30.485 after the equity stake is taken by the investor. 93 00:04:31.155 --> 00:04:34.285 Then we are going to observe the impact for the investor 94 00:04:34.705 --> 00:04:37.325 of taking an equity stake on the p 95 00:04:37.325 --> 00:04:39.165 and l, on the income statement, 96 00:04:39.425 --> 00:04:42.085 but also on the cashflow statement, the evolution 97 00:04:42.085 --> 00:04:44.365 of the cash position of the company from the beginning 98 00:04:44.465 --> 00:04:47.525 to the end of the year, taking into account the trajectories 99 00:04:47.785 --> 00:04:52.125 of both the investor and the target with the p and l 100 00:04:52.125 --> 00:04:53.205 and the cashflow statement 101 00:04:53.505 --> 00:04:55.725 and the beginning balance sheet, we are going to be able 102 00:04:55.745 --> 00:04:58.485 to construct the balance sheet at the end of the year, 103 00:04:58.625 --> 00:05:01.365 the 31st of December year, and plus one. 104 00:05:01.595 --> 00:05:03.765 What we'll show on the balance sheet on the 1st of January 105 00:05:03.945 --> 00:05:05.045 is quite simple. 106 00:05:05.235 --> 00:05:06.685 There's no change in the equity 107 00:05:06.705 --> 00:05:08.845 and liabilities for the very simple rhythm 108 00:05:08.955 --> 00:05:13.605 that the investment is made by cash is financed by cash, 109 00:05:14.065 --> 00:05:16.125 but on the asset side of the balance sheet, 110 00:05:16.335 --> 00:05:18.765 there will be the appearance of an equity stake, 111 00:05:19.165 --> 00:05:22.365 a financial investment which is paid by cash. 112 00:05:22.905 --> 00:05:24.325 So what do we observe on the 113 00:05:24.325 --> 00:05:25.485 asset side of the balance sheet? 114 00:05:25.675 --> 00:05:28.205 Obviously no change in property, plant 115 00:05:28.205 --> 00:05:31.565 and equipment, no change in immaterial 116 00:05:31.865 --> 00:05:33.765 and intangible fixed asset. 117 00:05:34.475 --> 00:05:36.205 There's an equity stake, which is going 118 00:05:36.205 --> 00:05:39.485 to show in the financial fixed asset we had zero. 119 00:05:39.745 --> 00:05:43.045 Now we have 30, which is the amount of money we pay 120 00:05:43.045 --> 00:05:44.805 for this 10% equity stake 121 00:05:45.975 --> 00:05:47.885 about the current operating assets. 122 00:05:47.885 --> 00:05:49.445 There is obviously no change, 123 00:05:49.865 --> 00:05:52.485 but there is a change in a cash situation of the company, 124 00:05:52.855 --> 00:05:54.605 which is down by 30. 125 00:05:55.065 --> 00:05:58.045 So you understand that total assets remain the same. 126 00:05:58.505 --> 00:06:01.845 It was 1,800 and it's still the same figure. Why? 127 00:06:01.845 --> 00:06:03.325 Because the plus 30, 128 00:06:03.325 --> 00:06:05.325 which shows in the financial fixed asset 129 00:06:05.945 --> 00:06:07.525 is absolutely compensated 130 00:06:07.545 --> 00:06:10.885 by a minus 30 in a cash situation of the company. 131 00:06:11.225 --> 00:06:13.405 As I said, as far as equity 132 00:06:13.425 --> 00:06:15.205 and liabilities are concerned, 133 00:06:15.665 --> 00:06:19.205 the company has mobilized its cash, so no increase in debt, 134 00:06:19.585 --> 00:06:22.805 no equity issue in order to finance the acquisition. 135 00:06:23.105 --> 00:06:26.565 So same equity, same financial debt, same operating debt, 136 00:06:26.865 --> 00:06:28.845 and at the end of the day, this total equity 137 00:06:28.845 --> 00:06:32.885 and liabilities of course remains at the level of 1,800. 138 00:06:33.425 --> 00:06:35.365 Now we can start to build a p and l. 139 00:06:35.905 --> 00:06:37.525 You remember that for the investor, 140 00:06:37.825 --> 00:06:41.365 the sales figure is supposedly 1000 ebitda. 141 00:06:41.365 --> 00:06:43.845 Cash operating profits 300, no change. 142 00:06:44.245 --> 00:06:47.005 Depreciation is 174, 143 00:06:47.345 --> 00:06:49.925 so the EBIT is 126. 144 00:06:50.265 --> 00:06:51.765 So far no change, 145 00:06:52.665 --> 00:06:55.725 but there will be a kind of financial income 146 00:06:56.075 --> 00:07:00.365 because as a target is paying a dividend, which is 40, 147 00:07:00.615 --> 00:07:05.325 40 represents two thirds of 60, which is the net earnings. 148 00:07:05.325 --> 00:07:09.485 You remember the dividend payout ratio is 67%. 149 00:07:10.155 --> 00:07:12.845 Then the investor is going to receive 10%. 150 00:07:13.065 --> 00:07:14.805 Its equity stake of the 40. 151 00:07:15.475 --> 00:07:17.085 It's a financial income, 152 00:07:17.545 --> 00:07:22.085 but in most cases, this financial income is not taxed, 153 00:07:22.505 --> 00:07:24.645 so it's going to be an incremental profit 154 00:07:24.745 --> 00:07:25.845 as a financial income, 155 00:07:26.025 --> 00:07:28.525 but the company is not going to pay any tax out of that. 156 00:07:29.105 --> 00:07:32.885 So the 126 is incremented by four, 157 00:07:33.475 --> 00:07:34.725 then it's 130. 158 00:07:35.185 --> 00:07:37.485 We pay the interest expense, no change 159 00:07:37.485 --> 00:07:40.285 because there is no change in the debt, which is 30. 160 00:07:40.635 --> 00:07:44.205 Then the earnings before tax is 100, but the earnings 161 00:07:44.205 --> 00:07:46.725 before tax is not a taxable income 162 00:07:47.075 --> 00:07:50.685 because out of 100 we have to withdraw the four 163 00:07:50.985 --> 00:07:53.405 of financial income, which is not taxed. 164 00:07:53.945 --> 00:07:58.645 So the taxable income is 100 minus four, which is 96. 165 00:07:59.145 --> 00:08:01.765 You pay taxes of 25%, 24, 166 00:08:02.305 --> 00:08:06.245 and the net earnings are 100 minus 24, 167 00:08:06.575 --> 00:08:08.005 which is seven six. 168 00:08:08.755 --> 00:08:12.365 Basically it is 72 plus four 169 00:08:12.465 --> 00:08:14.045 of financial income. 170 00:08:14.425 --> 00:08:17.405 Now we can build a cash flow statement for your n plus one 171 00:08:17.465 --> 00:08:21.405 for the investor ebitda 100 minus cash out 172 00:08:21.925 --> 00:08:26.125 interest expense plus cashed in financial income. 173 00:08:26.225 --> 00:08:29.205 The dividend is cash minus income tax. 174 00:08:29.705 --> 00:08:32.325 The gross cash flow is 250. 175 00:08:33.185 --> 00:08:36.565 The working capital requirement is up by 10%, 176 00:08:36.565 --> 00:08:38.085 which represents minus 20. 177 00:08:38.505 --> 00:08:41.165 The operating cash flow is then 230. 178 00:08:41.675 --> 00:08:43.445 Capital expenditures, 200, 179 00:08:44.075 --> 00:08:47.285 free cash flow 30 available before strategy. 180 00:08:47.395 --> 00:08:50.005 Financial decision. There is no dividend payment. 181 00:08:50.505 --> 00:08:52.965 Net changing cash position is 30. 182 00:08:53.225 --> 00:08:55.565 You understand that the dividend is cashed in 183 00:08:55.585 --> 00:08:59.165 by the investor and it is a real contribution in order 184 00:08:59.225 --> 00:09:02.045 to increase the cash situation of the investor. 185 00:09:02.305 --> 00:09:03.365 Now with the p and l 186 00:09:03.365 --> 00:09:04.565 and the cashflow statement, 187 00:09:04.705 --> 00:09:07.525 we can build the balance sheet at the end of the period. 188 00:09:08.455 --> 00:09:12.325 Let's start with the assets. Assets on the 31st of December. 189 00:09:12.945 --> 00:09:14.605 You remember that property, plant 190 00:09:14.605 --> 00:09:17.485 and equipment has been incremented by 26, 191 00:09:17.485 --> 00:09:19.845 which is CapEx minus depreciation of the year. 192 00:09:20.395 --> 00:09:23.605 Financial fixed asset. It was 30, it's still 30. 193 00:09:23.905 --> 00:09:26.365 It is your amount of money, which you have invested in a 194 00:09:26.365 --> 00:09:30.045 target, 10% of 300 euro, remember, so some 195 00:09:30.045 --> 00:09:34.045 of these two gives you the total non-current asset, 856 196 00:09:34.835 --> 00:09:36.805 inventories are by 10%. 197 00:09:36.965 --> 00:09:38.045 Accounts receivable 198 00:09:38.065 --> 00:09:41.285 and other current operating assets are by 10%, 199 00:09:41.945 --> 00:09:44.565 and the change in cash position is plus 30. 200 00:09:45.145 --> 00:09:48.485 We have calculated this figure in the cash flow statement, 201 00:09:49.305 --> 00:09:51.485 so interestingly you remember 202 00:09:51.515 --> 00:09:55.765 that we had 526 without the acquisition. 203 00:09:56.235 --> 00:09:58.445 What is the impact of the equity stake? 204 00:09:58.745 --> 00:10:03.405 The 526 is decremented by the amount of money we cashed out 205 00:10:03.785 --> 00:10:07.445 for the equity stake and is incremented by four, 206 00:10:07.445 --> 00:10:10.485 which is a dividend we received from the target 207 00:10:11.535 --> 00:10:13.805 minus 30 plus four. 208 00:10:14.105 --> 00:10:17.085 We are back to the initial level, which is 500 209 00:10:18.015 --> 00:10:21.325 total balance sheet 1,906. 210 00:10:21.425 --> 00:10:23.925 As far as assets are concerned, now we can move 211 00:10:23.925 --> 00:10:26.685 to the equity and liabilities part of the balance sheet, 212 00:10:27.985 --> 00:10:29.325 no change in capital, 213 00:10:29.705 --> 00:10:31.485 no change in additional paid in capital 214 00:10:31.485 --> 00:10:33.125 because there's no equity issue 215 00:10:33.625 --> 00:10:36.125 and the retain earnings, which were previously 216 00:10:36.505 --> 00:10:41.045 before we took into account this equity stake 672. 217 00:10:41.465 --> 00:10:43.165 The retain earnings are incremented 218 00:10:43.265 --> 00:10:46.565 by the financial income generated by the equity stake. 219 00:10:46.785 --> 00:10:48.245 The financial income is four. 220 00:10:48.595 --> 00:10:52.285 It's not taxed, so the earnings were 72. 221 00:10:52.465 --> 00:10:55.005 Now, age 76, there is no dividend payment. 222 00:10:55.305 --> 00:10:58.405 The retained earnings are incremented by the full earnings. 223 00:10:58.405 --> 00:11:01.085 The full bottom line of the investor during this year, 224 00:11:01.905 --> 00:11:04.805 no change in long-term and short-term financial debt. 225 00:11:05.145 --> 00:11:08.125 It was basically the assumption, an increase 226 00:11:08.425 --> 00:11:11.845 of 10% in the accounts payable in the other current 227 00:11:11.845 --> 00:11:14.085 operating liabilities, total equity 228 00:11:14.085 --> 00:11:17.085 and liabilities, 1,906. 229 00:11:17.475 --> 00:11:19.925 Obviously, assets on the one hand, equity 230 00:11:19.925 --> 00:11:22.565 and liabilities on the other hand are matching. 231 00:11:22.565 --> 00:11:26.365 This is a mechanical consequence of accounting. 232 00:11:27.305 --> 00:11:29.885 Now, a few comments to conclude This first method, 233 00:11:30.755 --> 00:11:33.485 basically the asset side of the balance sheet has 234 00:11:34.085 --> 00:11:37.045 recognized the investment increase in the financial fixed 235 00:11:37.045 --> 00:11:40.565 asset and its financing decrease in the 236 00:11:40.565 --> 00:11:41.885 cash position of the company. 237 00:11:42.705 --> 00:11:43.885 Of course, the equity 238 00:11:43.905 --> 00:11:45.685 and liabilities would have been affected 239 00:11:45.945 --> 00:11:49.205 by this equity stake if the participation, 240 00:11:49.205 --> 00:11:52.885 if the investment had been financed either by debt or 241 00:11:53.025 --> 00:11:55.565 By shares issue, as it's not the case 242 00:11:55.565 --> 00:11:59.765 because it's fully financed by cash on the asset side 243 00:11:59.765 --> 00:12:03.485 of the balance sheet is impacted with the kind of trade off 244 00:12:03.555 --> 00:12:05.885 between fixed asset and cash. 245 00:12:06.825 --> 00:12:08.605 Now, the net income, the p 246 00:12:08.605 --> 00:12:11.805 and l, the cash on the asset side of the balance sheet 247 00:12:12.185 --> 00:12:14.685 and the retain earnings in the equity 248 00:12:14.865 --> 00:12:18.245 and liabilities are increasing by the amount 249 00:12:18.465 --> 00:12:20.685 of the financial income. 250 00:12:21.065 --> 00:12:23.605 And the financial income represents a dividend, 251 00:12:23.605 --> 00:12:27.165 which is paid by the participation by the equity stake. 252 00:12:27.545 --> 00:12:31.845 The dividend paid by the company by the target is 40. 253 00:12:32.305 --> 00:12:33.925 You have a 10% equity stake. 254 00:12:34.025 --> 00:12:36.765 You receive 10% of 40, which is four. 255 00:12:37.555 --> 00:12:40.325 Incremental profit, incremental cash, 256 00:12:40.395 --> 00:12:42.725 incremental retain earnings. 257 00:12:43.105 --> 00:12:44.725 Now, you understand that this first method 258 00:12:44.745 --> 00:12:47.205 of consolidation was very simple. 259 00:12:48.865 --> 00:12:52.725 Why? Uh, because it's simply investing cash in something 260 00:12:52.725 --> 00:12:54.725 which is generating a financial income. 261 00:12:55.595 --> 00:12:57.805 Imagine for example, you invest in bonds, 262 00:12:58.025 --> 00:13:00.285 you receive the coupon, you pay the taxes. 263 00:13:00.585 --> 00:13:02.085 In this case, you don't pay taxes 264 00:13:02.275 --> 00:13:05.725 because the dividend has already been taxed, and that's it. 265 00:13:06.185 --> 00:13:07.245 Impact on the profit, 266 00:13:07.585 --> 00:13:10.085 impact on retain earnings, impact on cash. 267 00:13:10.785 --> 00:13:12.285 Now, the second method is going 268 00:13:12.285 --> 00:13:13.885 to be a little bit more complex 269 00:13:14.035 --> 00:13:16.805 because the target is no more financial investment. 270 00:13:17.155 --> 00:13:19.005 It's now an industrial investment. 271 00:13:19.915 --> 00:13:21.925 It's an equity stake of course, 272 00:13:22.185 --> 00:13:25.485 but you want to contribute to the strategic decisions. 273 00:13:25.985 --> 00:13:28.645 You want to contribute to the operational decisions, 274 00:13:28.865 --> 00:13:32.205 and there will be a significant impact on the way the 275 00:13:32.205 --> 00:13:36.045 accounts are consolidated in the group accounts, 276 00:13:36.225 --> 00:13:37.445 the investor's accounts. 277 00:13:37.755 --> 00:13:39.605 This will be the next module.