Monday, October 31, 2016

What are M&A Earnouts

An earn-out is a form of contingent consideration payable to the seller based on the performance of the target for a period of time after the closing of a M&A transaction. Earn-outs are typically structured as one or more payments made upon the achievement of certain specified milestones.

Earnouts generally are pegged of financial metrics such as EBITDA, Gross Profit or Revenue/Sales. At times they are pegged to operational metrics, i.e. entering a new market, managing the mix of revenue by customer or channel, regulatory approval of a new drug (biotech)

Earn-out periods typically range from 12 to 36 months, with one payment made at the end for earnouts of shorter duration and multiple payments made at the end of each year for multi-year earn-out periods.

The use of earnouts has increased in the last few years, with more than a third of M&A transactions incorporating it.

Which one(s) are a better gauge, financial or operational (metrics)? 

From the cases I came across, Ebitda, as well as revenue targets are almost always stipulated. Operational covenants are also often included.

Payment terms. The payment to be received by the seller upon achievement of the earn-out target is generally structured as (i) a flat fee, (ii) a multiple of the amount by which the business exceeds the earn-out target or (iii) a percentage of the earn-out target. For example, if the overall purchase price for the business was determined based on a specific multiple of the business’s EBITDA, then it may be appropriate to tie the earn-out to EBITDA and the payment to be a multiple of the overall amount by which the business exceeded the specified target. Parties often specify a maximum amount payable, or a cap, in the event that the business far exceeds the earn-out target. (Source: Use of earn-outs in private M&A transactions, Stuart Welburn and Corby J. Baumann)


Post-closing covenants may require (i) that the buyer maintain separate books and records for the business

(ii) that the buyer dedicate a certain minimum level of working capital to maintaining the business (in other words not sucking dry the bank)

(iii) that the buyer not engage in any change of control or sale transaction involving the business (keeping the management) or

(iv) that the buyer maintain a certain level of effort in operating the business (such as commercially reasonable efforts) in order to reach the earnout targets.

The tax treatment of the earnout may vary, including the recognition, timing and characterization of the seller’s taxable income generated and should be carefully considered.

Saturday, October 29, 2016

10 Tips for Finding Mentors (the college edition)

Finding mentors in life and profession is incumbent upon one that seeks to better himself.

Like-minded people share a common bond. If you can find out what that is, then you have a match. It sounds easier than it actually is.

For starters, there is the disparity in time value between mentor and mentee, where the sought after mentor has a scarcity of time the would be mentee does not. Due to time constraints, your favorite mentor may be unavailable while the mentee is mostly available.

I think someone who seriously has considered building up a relationship with a mentor should:
  1. Be well acquainted with his target, beyond background and qualifications. If you don't know your mentor well enough to speak eloquently on the subject, to quote from his/her works, then drop it. The worst offense to people including myself is wasting my time. Don't make me blacklist you. You only have one chance to make the first impression.
  2. Impress your mentor. At a face to face meeting, offer to buy him lunch or coffee/tea, even if you'll end up not paying for it. I know a lot of people are saying the opposite, however, I look for assertiveness as a major treat and if you don't have it, you lose. A famous person would likely have a lot of groupies. I don't think idolatry makes a serious mentorship relationship, so mentors should stay away from idolatresses. Idolatry also can incapacitate the mentee in making real progress
  3. Preparation is the key. You should never seek out someone just because he(she) is wealthy and famous. Wealth and fame are a byproduct of a life of choice and experiences that include defeat, disappointments and retreats. If you don't wanna go through that, don't even start.
  4. Your mentorship search should have already started and be well underway. That means you should already have a collection of thoughts, writings, personal guidelines and lifestyle practices that are congruent to what you are seeking from me. You should have a list of favorite subscriptions, books, trainings, videos that form the base of who you are and want to become. Many people have a whole set of virtual mentors or are followers of Warren Buffet for example. If you have read and made sense of Buffet's investment letters which are publicly available from 1977 to 2015, that shows me you have interest and possess an analytical mind. Does that mean they will form the subject of our meeting ? Absolutely not. If you've come prepared at a meeting I can infer the time I spend with you won't go to waste. If you already have "virtual" mentors, whether alive or in the past, that is something I can build on
  5. As a mentor, I'm looking for someone who has a a good [mental] structure, who has a "backbone". A "backbone" is something you can build on, something that shows promise. I like people who have character.  

Monday, October 24, 2016

Cybersecurity tips for the finance worker

When I heard about the hacked Podesta and Powell personal emails, I became concerned and reevaluated what I already have in place or need to do to in order to better safeguard my communications.

If you are not familiar with the method used to hack into Podesta's personal Gmail account, you can read about it at the Motherboard.
Using an e-mail message though a tactic known as spear phishing the hacker sends you an email that appear to come from a legitimate party, possibly a security alert from your email provider account which was the case with Powell and Podesta.
"The spear phisher thrives on familiarity. He knows your name, your email address, and at least a little about you." -Norton
. What can you do ?
  1. Never reveal too much personal information. That's one of the reasons I write under a pseudonym.
  2. Use different e-mail  accounts for different purposes (for example one for friends communication, another for bills, another for shopping, another for medical records, etc.)
  3. Change passwords frequently.
  4. Familiarize yourself with encryption methods @Justin Fox @Bloomberg View mentions Barton Gellman . Gellman uses Secure Drop, Ricochet and Pump to keep him anonymous and conceal his IP address. Pretty Good Privacy (PGP) is considered the gold standard in encrypting email (you need to create open PGP keys though, encrypt, and then decrypt the files).  Read Gellman's Why I Guess Your Ipad Password to stop using easy to guess passwords.
  5. Surf the internet anonymously using a VPN so traffic though your computer goes through alternating proxies, not revealing your physical (IP) address.
  6. You may wish to use Tor for anonymous browsing.  Tor Version was released Oct. 17th. Tor requires a subscription. The problem with Tor is that is may attract unsavory characters operating on the fringes of the law. 
  7. "Individuals use Tor to keep websites from tracking them and their family members, or to connect to news sites, instant messaging services, or the like when these are blocked by their local Internet providers."-Tor
    As an investment professional, you need to expect your communications to be listened in, If it's not your competitor, it could be your wife (or husband). OK, the latter is not a 'hack', more of an indiscretion.

Friday, October 21, 2016

What is the Optimal Capital Structure ?

That's a perennial question in finance, and I defer to one of the services I use, FactSet "...bankruptcy in and of itself is not costly if the value of the firm is efficiently transferred to the bondholders."

Of course, optimal capital structure is a 'moving' target.

Latest FactSet release,Sept. 26, 2016.

Milken Institute Conference talk on the macro level (moderated by Michael Milken) with Emanuel Friedman, Mark Attanasio, Jonathan Sokoloff and Mitchell Julius (who does aircraft securitizations) at the 2015 Conference.

Who has the cheaper capital (in Europe in particular) ?

Monday, October 17, 2016

Make Wall Street Great Again: I❤WallStreet

With a heated Presidential race on the way this year, the choice is between a populist (Donald Trump) and a career politician (Hillary Clinton). Regardless of who is going to win the race, the winning candidate must address the issues of over-regulation facing Wall Street firms and tax reform in general:

Over-regulation is a burden on American financial firms

The diminishing role American firms play on the world financial stage is due to regulatory constrains a burden placed by the Dodd Frank Act of 2010, specifically the 'Volker Rule' § 619 (12 U.S.C. § 1851) which grew too complex and restrictive, possibly effecting market liquidity and efficiency. As a consequence, market players are decamping to overseas financial hubs which translates into a loss of revenue and jobs in America. 

 New York City has lost 25,000 financial Services jobs from 2010-2015 (and during the recession, nearly 200,000 finance professionals lost their jobs, 500,000 nationwide)

Reforming the Tax Code: Implications

Friday, October 14, 2016

Jetcraft 10-year Business Aviation Market Forecast

Jetcraft released its 10-year business aviation forecast Oct. 12th, 2016

Key points:
  • 7,879 unit deliveries, representing $248 billion in revenues (based on 2015 pricing) through 2026
  • Gulfstream OEMs to secure the largest market share (30.6%)
  • Largest 30% revenue market share for engines for PW&C, Rolls Royce into 2nd place with 25%
  • Honeywell will be the dominant player among avionics OEMs, with a 45% revenue market share over the forecast period. Rockwell Collins 2nd with a 37% revenue market share.
  • Little increase in residual values for pre-owned aircraft (5+ years).
  • Cautionary tale: increasing geopolitical stressants could alter the projections. 


Saturday, October 8, 2016

Caesars Entertainment bankruptcy outcome

In September 2016 Caesar's Entertainment entered a final agreement for its bankruptcy exit. Creditors of the bankrupt operating unit would own almost 70 percent of the new company. In exchange for the much better offer, the junior bondholders would be required to drop any legal claims against Apollo and TPG, which they had previously sued for $13 Bn.

 "After more than a year of standing firm, Apollo and TPG caved to creditors demands and forked over more cash as part of Caesars’ Chapter 11 reorganization plan — and gave [junior] bondholders an equity stake in the casino’s non-bankrupt unit.  
 The move means investors in the PE giants’ funds will see their return on investment slashed — to about 27 cents on the dollar for some." (NY Post, Oct. 3rd, 2016)