Management response to hostile takeover bids and acquisition defense

Valuation and Financial Statements

Shareholder Value

The question of shareholder interest as it pertains to a takeover bid is dependent on a variety of factors, not the least of which is the valuation of the company as determined by the board of directors and executive management. While current stock price plays a relevant role, valuation depends on analysis conducted in key areas including but not limited to: earnings multiple times EBITDA, price to book ratio, forward looking earnings guidance, and perhaps most crucial enterprise value. The current scenario of ABC Company pursuing the acquisition of XYZ Company for $35.00 a share, a $10.00 premium over the current $25.00 stock price, allows for an explication of these valuation techniques.

XYZ management believes that the $35.00 offer price is undervaluing the company and as such is not in the shareholder's interest. In identifying the rationale for this position a logical place to begin is the earning multiple times EBITDA. This figure identifies operational cash flow by stripping out earnings prior to interest, taxes, depreciation, and amortization (Marshall, D. & McManus, W. 1996). EBITDA multiples are industry specific and as such a proper valuation includes a comparison to similar companies. The EBITDA multiple identifies how much XYZ is valued in relation to its operational earnings. Succinctly, "it estimates how many times of the EBITDA the business operation is worth" (Investor Words.Com. N.D.). XYZ on a per share basis may have an EBITDA multiple which values the company at $40.00 a share.

A second valuation technique involves the calculation of "the price/book (p/b) ratio, sometimes called the market-to-book ratio, which links the stock/share price of a company with the book or accounting value of shareholders' equity per share. It reflects how many times book value investors are ready to pay for a share" (Financial Times Lexicon. N.D.). The book value of XYZ Company defined as shareholder equity per share (Financial Times Lexicon) may be $20.00 with a stock price of $25.00, resulting in a price to book of 1.25. ABC's $35.00 per share offer indicates a 1.75 figure however; XYZ management may contend that both valuations do not properly reflect "the firm's future value creation potential" (Financial Times Lexicon. N.D.).

Forward looking earnings guidance captures management's outlook for the company and industry in the coming quarters. This guidance will include earnings per share estimate which is a concatenation of micro and macro forces on the earnings potential of the firm. The internal operational dynamics of XYZ may reflect strong pricing power, and cost cutting supply chain logistics; while the macroeconomic forces may indicate stronger than expected consumer spending and more robust GDP growth, all of which could significantly undervalue XYZ relative to AVC's bid.