The merger and acquisition market is like a high-level hunting game. Buyers are looking for high-quality targets in the vast ocean of companies, while sellers are carefully dressed up and try to show their most attractive side. However, can the glamorous financial data really represent the true value of the company? Are there traps in the valuation of mergers and acquisitions hidden behind a bright report?
Goheal found that many listed companies rely too much on financial data for valuation when acquiring, but ignore potential financial manipulation, market expectations and uncertainty in future growth. Today, we will dismantle the five classic traps in the valuation of listed companies' mergers and acquisitions to avoid being confused by beautiful numbers.
Trap 1: Profitability ≠ sustainability, "illusion" on the books
When many companies are acquiring, the most concerned indicators are net profit and EBITDA (earnings before interest, taxes, depreciation and amortization), but the "reliability" of these two data is worth further investigation.
In 2019, Luckin Coffee was the darling of the capital market, attracting a large number of investors with its astonishing growth rate. But it was later revealed that the company exaggerated sales data and inflated revenue by about 2.2 billion yuan. This kind of "beautified" financial data often conceals the sustainability of the company's actual profitability.
How to identify?
1. Pay attention to whether the operating cash flow supports the growth of net profit, and be wary of "paper wealth".
2. Analyze the company's historical performance to avoid pseudo-growth companies with "short-term explosion and long-term downturn".
3. Consider the cyclicality of the industry. The high profits of some industries may be short-term dividends, not long-term competitiveness.
Goheal recommends that the acquirer conduct in-depth due diligence before the merger and acquisition, and judge the sustainability of profits based on market trends and industry conditions, rather than rushing to act just because the "numbers look good".
Trap 2: The "scale trap" behind high growth
"Growth" is the golden signboard of the market, but too fast growth is sometimes a dangerous signal. When companies are valued, they usually consider indicators such as revenue growth rate and market share, but if the company's expansion speed far exceeds the industry average, they need to be wary of the possibility of "overdrawing the future".
In 2017, the shared bicycle industry ushered in a period of crazy expansion driven by capital. Companies such as ofo and Mobike quickly occupied the market by burning money for subsidies, attracted a lot of investment, and their valuations once climbed. However, due to over-reliance on financing, unclear profit models and high operating costs, these companies eventually fell into the dilemma of broken capital chain.
How to identify?
1. Pay attention to the driving factors of corporate growth: Is it healthy market demand or reliance on subsidies?
2. Analyze customer acquisition costs and user retention rates, and be wary of false growth created by short-term marketing methods.
3. Combine industry data to determine whether growth is based on a solid business model.
Trap 3: Underestimating debt risks, hidden "financial black holes"
When valuing mergers and acquisitions, debt levels are often underestimated, and companies with excessive debt may become a huge burden on the parent company in the future once they are acquired.
In 2016, HNA Group's overseas merger and acquisition frenzy was a typical case. HNA used high-leverage financing to acquire global assets in many fields such as finance, hotels, and aviation. In just a few years, its debt scale reached hundreds of billions of RMB, even exceeding 700 billion RMB. In the end, due to the broken capital chain, HNA had to sell large-scale assets and officially entered the bankruptcy reorganization procedure in 2021.
How to identify?
1. Focus on the interest-bearing debt ratio, asset-liability ratio, and the proportion of short-term debt.
2. Analyze the cash flow adequacy of the company to ensure that the operation will not be affected by debt pressure after the merger and acquisition.
3. Combined with the characteristics of the industry, judge whether the leverage level is reasonable to avoid falling into a "financial black hole".
Goheal reminded investors that in M&A negotiations, they should not only pay attention to "how much money the target company has made", but also dig deep into "how much money it owes".
Trap 4: Ignoring the integration risk of management and corporate culture
The true value of a company is not just assets and profits, but is determined by its management team, organizational structure and corporate culture. However, when valuing mergers and acquisitions, many companies often ignore this "soft asset".
In January 2000, AOL and Time Warner announced their merger, which became the world's largest corporate merger at the time and was called the "merger of the century". However, the merger did not achieve the expected success. Instead, it led to huge losses due to management conflicts, cultural incompatibility, and misjudgment of Internet development trends. For example, the merged company AOL-Time Warner lost as much as $54.22 billion in fiscal 2002, and fell into further financial difficulties in 2003, and eventually had to go their separate ways.
How to identify?
1. Before the merger, have a deep understanding of the governance capabilities and cultural adaptability of the company's management.
2. Set up a **post-merger integration (PMI)** plan to plan the adaptation strategies of management and employees in advance.
3. Pay attention to the turnover rate of core talents to prevent the departure of key personnel from affecting business stability.
Trap 5: Market expectations VS real value, the trap of valuation bubbles
The investment market is full of emotional fluctuations, and market expectations often cause deviations in the valuation of companies. In mergers and acquisitions, if the buyer prices the target company based solely on market sentiment and ignores its true intrinsic value, it may fall into the embarrassment of "taking over at a high price".
In 2017, SoftBank invested in WeWork and once gave a valuation of US$47 billion. However, only two years later, WeWork's valuation plummeted from US$47 billion at its peak to US$8 billion. Against this background, SoftBank was forced to cut its investment in WeWork and took measures such as large-scale layoffs to cope with financial difficulties.
How to identify?
1. Compare the valuation of the company with the average level of the same industry, and be wary of "hype" bubbles.
2. Pay attention to the flow of funds in the secondary market and avoid taking over assets that have passed the market heat.
3. Combined with industry chain data, determine whether the target company really has long-term value.
Conclusion: In merger and acquisition valuation, logic is more important than data!
Beautiful financial data is just the tip of the iceberg of merger and acquisition valuation. What really determines the value of a company is the combined effect of business model, industry trends, management capabilities and market expectations. Goheal advises investors to see the essence through phenomena when making M&A decisions, be wary of data traps, and avoid "paying a high price for lessons".
So, have you ever seen a case where a company with "fancy numbers" eventually went bankrupt? In M&A, what kind of risks are you most concerned about? Welcome to leave a message in the comment area to discuss!
[About Goheal] American Goheal M&A Group is a leading investment holding company focusing on global M&A holdings. It is deeply involved in the three core business areas of acquisition of listed company control, M&A and restructuring of listed companies, and capital operation of listed companies. With its deep professional strength and rich experience, it provides enterprises with full life cycle services from M&A to restructuring to capital operation, aiming to maximize corporate value and achieve long-term benefit growth.
