In this article, we’ll learn the next area of investment banking where we will examine is advisory services, comprising assistance in M&A and debt restructuring deals. M&A stands for mergers and acquisitions. We discuss an acquisition when one firm buys another company’s shares or assets, and we have a merger. When the buying company absorbs the target business, the target ceases to exist after the transaction as it’s merged into the buying entity.
M&A deals became increasingly popular in the 1960s when a binge of conglomerate buildups occurred. Key investment bank players understand this line of business can be very profitable because M&A transactions occur multiple times throughout the life of a company. In most cases, IPOs are a one-off event. In every M&A process, we have at least two parties involved one company as the buyer or buying company, and the other is the target, the firm being acquired. The buying company can pay the agreed-upon amount to the target’s shareholders in a few different ways.
1 option is to offer 100% cash, another is to provide a stock package of the combined entity, and a third possibility is to use a combination of cash and equity. The technical name of the amount paid in the transaction is called consideration. There are several reasons M&A deals play an important role throughout a company’s lifecycle. Top managers understand that acquiring an existing organization is cheaper than building internally. In addition, in some instances, businesses can be so complementary that their combination can unlock considerable savings, efficiencies, and opportunities. We’ll provide more details on these aspects in the chapter. Focused on M&A mechanics.
Why do companies need help acquiring other companies?
First, they research potential acquisition targets in different industries and pitch these opportunities to clients. Secondly, investment bankers can be ideally positioned to provide valuable M&A insights to their clients. They often work with multiple businesses operating in this same industry. In this way, investment bankers acquire invaluable information that the company’s executives would not have access to if they hadn’t received it from bankers serving multiple clients. In addition, industrial companies do not have the expertise to carry out these deals. Several technical aspects must be addressed. Such issues as finding bidders or targets, communication with these bidders or targets, acquisition of financial information, and negotiations with legal, technical, and financial due diligence advisors can be overwhelming for a company that has carried out very few, if any, M&A deals.
Even some of the most prominent companies lack the scale to carry out sizable deals without hiring an advisor. In any M&A transaction, investment bankers have two possible roles the buy or sell side, depending on who hires them, the buying or selling party. This makes a world of difference. Banks typically prefer to be on the sell side as a transaction is likely, and commissions are almost guaranteed.
Investors get paid in a more complicated way. They receive a retainer, a fixed amount that essentially covers their costs and success fee. If the firm they advise purchases the target, buy and sell side bankers have different tasks. Investment bankers hired by the firm to be sold focus on finding a significant number of bidders. They work closely with the company, trying to prepare it for all questions asked by buyers. Sell-side investment bankers, prepare a business valuation and suggest a minimum bidding price. They are also responsible for coordinating the entire sales process and working closely with the advisors of bidding firms. When hired by a buy-side company. Investment bankers mainly work on providing strategic advice on whether the target is attractive. They assess whether the target would fit nicely with the buyer’s existing business.
Buy-side advisors must provide their valuation of the target business, estimating the number of synergies the transaction could generate. One of the crucial factors determining the success of M&A deals is the price that the buyer pays the seller. Typically, investment bankers’ valuation of the target business directly impacts the amount the bidder is willing to pay and the amount the seller wants to receive. Company valuations play a crucial role in equity capital markets, too. Therefore, later in our program, we will spend significant time on various valuation techniques. You’ll learn how to perform DCF multiples and LBO valuation. Our goal is to prepare you to the fullest.
Besides M&A, the other advisory services investment banks offer are related to corporate distress as we’ll talk about a restructuring process when a firm cannot service its existing debt and is in danger of going bankrupt, I’m sure you can imagine how tough it is to work on these transactions and assist companies in deep trouble.
What leads to the distress of a company?
Why would a company borrow money it can’t repay?
The simple answer is that things change. Sometimes unforeseen circumstances can materialize. There can be several reasons.
Some companies can have operating difficulties and problems with their core business. Other businesses run into financial difficulties, situations where the core business is profitable or at least breaks even. However, interest payments absorb all cash flows. So the two main alternatives in this situation include a private workout or a formal bankruptcy procedure in court. Most lenders prefer private proceedings because this approach allows quicker results and a higher recovery rate. In a restructuring situation, investment bankers actively negotiate with lenders and prepare a recovery business plan. It’s their job to ensure the company has sufficient liquidity to run its business in the first 12 months after the plan is put in motion. These are the two primary advisory services offered by investment banks today.
