Terms Beginning With 't'

Takeover

  • January 07, 2020
  • Team Kalkine

This usually means an act of taking control of something. In financial world, the term ?takeover? is mostly used when a company get acquired by other company

What is EBITDA? Earnings Before Interest, Taxes, Depreciation, and Amortisation (EBITDA) is a widely used financial metric in evaluating cash flows and profitability of a business. Market participants closely track EBITDA and apply it in decision making extensively. Although conventional investors like Charlie Munger had raised concerns over the use of EBITDA, it is very popular in markets, and M&A transactions are mostly priced on EBITDA-based valuation like EV/EBITDA (x). EBITDA is not recognised by IFRS and GAAP but is used extensively in the Corporate Finance world. It is now a mainstream financial metric that companies look to target. EBITDA depicts operational cash generation capacity of a firm in a given period. It acts as an alternative to financial metrics like revenue, profit or earnings per share. EBITDA allows to evaluate a business operationally and outcomes of operating decisions. Non-operating items are excluded to arrive at EBITDA. EBITDA excludes the impact of capital structure or debt/equity, and non-cash expenses like depreciation and amortisation. A particular criticism of EBITDA has been the inappropriate outlook of capital intensive businesses, which incur large depreciation expenses. Business with large assets incurs substantial costs related to repair and maintenance, which are not captured in EBITDA because depreciation expenses are accounted to calculate EBITDA. Meanwhile, EBITDA can paint an appropriate picture for asset-light business with lower capital intensity. While revenue, profit and earning per share remain sought-after headline generators for corporates, EBITDA has also found its growing application in the corporate finance world and is now a mainstream metric to evaluate a business financially. Perhaps the growth of asset-light business models has also added to the use of EBITDA. Its debt-agnostic approach to evaluate businesses has given reasons to investors, especially for high growth firms during capital expenditure cycles. But EBITDA has been present for close to four decades now. In the 1980s, the growth in corporate takeovers through leverage buyout transaction was on a boom. EBITDA grew popular to value heavy industries like broadcasting, telecommunication, utilities. John Malone is credited for coining this term. He was working at TCI- a cable TV provider. Since EBITDA has remained an important metric to determine purchase price multiples and is highly used in M&A transactions. EBITDA’s application in large businesses with capital intensive assets that are written down over a long period has been a source of concern for many investors. Although EBITDA is an effective metric to evaluate the profitability of a firm, it does not reflect actual cash flow picture of a firm during a period. Also, it does not account for capital expenditures of the firm, which are crucial in successfully running a business. EBITDA does not give a fair cash flow position because it leaves out crucial items like working capital, debt and interest repayments, fixed expenses, capital expenditure. At the outset, there can be times when EBITDA may overstate performance, value and ability to repay debt. How to calculate EBITDA? NPAT: Net Profit after tax is the amount reported by a firm in the given period. It is present on the income statement of the firm and is used in the calculation of earnings per share of an entity. To calculate EBITDA, interest expense, tax, depreciation and amortisation are added to NPAT. Interest Expense: Firms can employ debt in their capital structure, and interest expense is funds paid to lenders as interest costs on principal debt. Most companies have different financing structure, and excluding interest payments enable comparing firms on operating grounds through EBITDA. Tax: Firms also pay income tax on profits. Excluding taxes gives a fair picture of the operating performance of the business since tax vary across jurisdictions, and sometimes according to size of business as well. Depreciation: Depreciation is the non-cash expense to account for the steady reduction in value of tangible assets. Firms can incur depreciation expense on machinery, vehicles, office assets, equipment etc.  Amortisation: Amortisation is the non-cash expense to account for the reduction in the value of intangible assets like patents, copyrights, export license, import license etc. Operating Profit: Operating profit is the core profit of a firm generated out of operations. It includes cash and non-cash expenses of a firm, excluding income tax and interest expenses. Operating Profit is also called Earnings Before Interest and Tax (EBIT). Read: EBIT vs EBITDA What is TTM EBITDA and NTM EBITDA? Trailing Twelve Months (TTM) or Last Twelve Months (LTM) EBITDA represents the EBITDA of the past twelve months of the firm. It allows to review the last operation performance of the business. Whereas NTM EBITDA represents 12-month forward forecast EBITDA of the firm. NTM EBITDA is also one-year forward EBITDA. Market participants are provided with consensus analysts’ estimates for a firm, which also include NTM EBITDA, NTM EPS, NTM Net Income or NPAT. What is EBITDA margin? EBITDA margin is the percentage proportion of a firm EBITDA against total revenue. It indicates the operational profitability of the firm and cash flows to some extent. If a firm has a higher margin, it means the level of EBITDA against revenue is higher. It is widely used in comparing similar companies and enable to evaluate businesses relatively. If a firm has a total revenue of $1 million and EBITDA is $800k, the EBITDA margin is 80%. What is adjusted EBITDA? Adjusted EBITDA is calculated to provide a fair view business after adding back non-cash items, one-time expenses, unrealised gains and losses, share-based payments, goodwill impairments, asset write-downs etc.

What are Hedge Funds? A hedge fund is a managed pooled fund for alternative investment method which employs trading into complex products including equities, derivatives, real estate, currencies and many others. The performance of the fund is measured in absolute return units.  As the name suggests, hedge fund tries to “hedge” the risk associated with a particular investment choice based on the price relevant information. Hedge fund managers choose from the variety of options from stocks to bonds and commodities to currencies. Sometimes they may invest their own money to a fund to leverage the magnifying effect of the investment. How did it start? Alfred Winslow Jones is regarded as a pioneer in the field of hedge fund management, and he launched the first hedge fund in 1949. Alfred structured the funds by finding the loopholes in the regulations and reaping benefits from them. Alfred formed an investment partnership and committed his own money in the partnership. He fixed his remuneration in the form of performance incentive, which was 20% of profits. Alfred, in his endeavour, combined shorting and leverage, and hedged them against the market movements and reduced the risk exposure. He chose equal short and long positions for his portfolio. The overall impact of the combination of long and short positions, his portfolio became more stable with lower risks. Why opt for Hedge Funds  Image source - © Kalkine Group 2020 Many fund managers joined Alfred to gain fame and fortune. Some of them even went to start their own fund houses and an SEC report of 1968 reported 140 hedge funds in the United States of America. During the stock market boom of the late 1960s led to a belief that Hedge Funds underperformed than the overall market. Many hedge fund managers dropped the idea of long term and short term positions and did not feel the need for risk hedging. To take the benefits of the market boom, many fund managers moved out from the Alfred technique of lowering market movement risks. The fund managers moved boldly to the riskier strategies, which led to heavy losses in 1969-70. The bear market of 1973-74 drove a massive plunge in hedge funds and saw closure of many such funds due to heavy losses. During the mid-80s, hedge funds again became centre of attraction for large investors due to the Julian Robertson’s Tiger Fund. The fund was one of the many global macro funds that used leveraged investments in securities and currencies after careful assessments of global macroeconomic and political situations. Tiger Fund, in 1985, correctly forecasted the end of the four-year trend of the US dollar appreciation against currencies of Europe and Japan and speculated in non-US currency call options. A report in the year 1986, reveals that since its inception, Tiger Fund gave an average of 43% return to its investors. During the late 1990s, hedge fund suffered one of the largest losses. Quantum Fund lost US$2 billion in 1998 during the Russian debt crisis. Tiger Fund lost more than US$2 billion in trading of Japanese Yen with respect to the US dollar. The losses and redemption of money by the investors led to the closure of the Tiger Fund in 2000. What are the different types of hedge funds? Hedge funds can differ based on the strategy chosen by the manager after consulting the investors. The strategy is laid out to the investors through a prospectus before going forward with it. This makes a hedge fund more flexible as investors are always aware of about where the funds are going. Thus, hedge funds can be of the following types: Macro: These hedge funds aim to profit through macroeconomic trends. These macro parameters may include global trade, interest rates, forex policies, etc. Equity: These hedge funds involve investments into stocks nationally and internationally, both. This is accompanied by a hedging position against stock market downfalls by shorting overvalued stocks. However, the striking feature of this type of hedge fund is that managers pick up undervalued stocks and split the investment between going long in stocks and shorting others. Relative-Value: This type of hedge fund takes advantage of inefficiencies existing in the spread. A Spread is the difference between bid price and ask price of a security. Event-based: These involve those funds that seek to gain from inefficiencies brought on by corporate events, corporate restructurings, mergers, and takeovers, etc. How is a hedge fund different from a mutual fund? In operation, hedge funds and mutual funds may sound the same as they both involve a pooled sum of funds being invested. However, there are some fundamental differences between both. These include: The need for accredited investors: Hedge funds are only open to certain accredited wealthy investors holding high level of capital. However, mutual funds are open to non-accredited investors as well. Liquidity: Hedge funds do not maintain daily liquidity, whereas mutual funds are much more liquid. Hedge fund investors may only liquidate after the specified subscription period is over. This period may be a quarter long or a month long depending on the type of fund. Investment instruments: Hedge funds investors can invest in various types of investments other than stocks. These include bonds, commodities, exchange rate, etc. However, mutual funds invest in stocks. This makes hedge funds much riskier than mutual funds. Regulations: Hedge funds are subjected to less regulatory checks are compared to mutual funds. Some hedge fund managers may not even be required to register the fund with the Security Exchange Authority. However, mutual funds are subject to greater level of regulations and must provide higher level of disclosure than that required by hedge funds. How is it doing now? The hedge fund industry has evolved substantially, and their numbers are in thousands and managing trillion dollars of investment around the globe. Their Modulus Operandi has also evolved over the year. They ask their investors to put the money in locking period of a minimum of 1 year. Hedge funds are usually open to qualified investors. The fees charged by the fund managers are also generally on the higher side, around 2% of the underline asset value plus the performance fee on gains generated. The basic principle of hedging the investment has now changed, and the key focus is to maximise profits or to give higher returns on the investments. To achieve higher returns, fund managers often put their money on higher risk elements. Fund managers use leverage to increase the spread of profit, but at the same time, leveraging can incur more loss than the actual investment would have made. Speculative investment has the potential of higher risk and huge losses. Being said that, the past financial blunders of hedge fund have also provided expensive learning and experience to the fund managers. Building upon the legacy, hedge funds have given higher returns over the years. The average rate of returns of hedge funds attracts most of the wealthy investors towards them. They invest in anything from bonds to securities to currencies and even real estate. There is no fixed rule of investment or instrument for investment, and no definition could cover the entire system of hedge funds. What are the two sides of investing in Hedge Funds? Image source: ©Kalkine Group

Securities and Exchange Commission (SEC) is a regulatory body in the US to protect the security market and interest of investors. SEC is an independent federal agency which keeps track of the company's disclosure and monitors corporate takeover actions to check if any fraudulent and manipulative in the market.

Golden parachute refers to an agreement between an employee and an employer under which the employer promises large financial benefits to the employee when he is terminated due to a merger or an acquisition of the company. It can be understood as a compensation offered to certain employees when they are terminated before their contract ends. A Golden parachute clause can discourage companies from a merger or from getting acquired due to the large financial sum involved. This clause is usually included in the agreement of the top executives in a business. The purpose of offering a golden parachute is to ensure that the employee is not disadvantaged or forced out of the company. Companies may offer golden parachute benefits in the form of cash, a special bonus or stock options. Golden handshake is also a clause much like the golden parachute with the only difference of inclusion of severance packages offered upon retirement too. Why was the golden parachute clause introduced? The golden parachute clause was introduced to protect the shareholders and other higher-level executives in case of a merger or a takeover. The term was first used in 1961 and in the 1970s firms began introducing the golden parachute clause in their employment contracts. Over time the intent with which the golden parachute clause was included in an employee’s contract started to change, with newer modifications making it too lenient at times. In current times, the clause has come to be interpreted as a lot more than what it originally was supposed to represent. During the 1980s, the golden parachute became a standard norm followed by various companies. Even small firms adopted a golden parachute clause to protect their employees. Companies would include monetary as well as other benefits for their employees in case the company undergoes a merger, takeover or anything alike. At the same time, companies have expanded the golden parachute and have introduced more leniency to it, causing some to believe it serves as a free pass for top level employees to leave office with a truck load of money and other benefits. How are golden parachutes beneficial? Golden parachutes can be beneficial for both employee and employer, in the following ways: Employee: The biggest advantage of a golden parachute clause for an employee would be the purpose behind the clause, i.e., the protection of said employee in case of a merger or acquisition. It acts as a security for the employee and is an insurance for the long term, making the position more lucrative for applicants. A job with a golden parachute clause is guaranteed to attract more applicants and would be highly valued compared to a job without the clause.   The other advantage for employees is avoiding inadvertent takeovers by big firms. Big companies might be tempted to acquire a well performing firm and its top-level employees. In the presence of a golden parachute clause, companies would give a second thought before they acquire a firm due to the costs involved, thus, protecting the employees from structural changes to the firm.   A golden parachute also offers clarity to an executive when faced with the dilemma of whether to get into a merger or not. When an employee has guaranteed financial benefits post the merger and has the option of retaining his job in case the merger does not happen, then he would act in the best interest of the company. An employee that has nothing to lose either way would act according to what is best for the company. Employer: An employer may benefit from a golden parachute as well. In the case of employee termination post a merger or acquisition, employers might be faced with the accusation of unfair treatment of their employees. A golden parachute allows employers to maintain cordial relations with the fired employees as well as it avoids legal proceedings by the latter. Thus, an employer could include a golden parachute clause to protect himself as well. What are the issues associated with the golden parachute clause? Golden parachutes may sometimes be too expensive for companies and thus, might not be feasible for small firms. Moreover, the clause is only included in the contracts of few selected employees and is not made available for the entire employee base. Another critique of the golden parachute is the leeway provided under current modifications of the golden parachute contracts offered by companies. Some contracts may allow employees to walk away with a large sum of money rather than act in the best interest of the company.  They might also shirk from their work and underperform as they would earn a guaranteed sum of money once they are terminated. In addition to these issues, golden parachutes might not discourage mergers as is expected out of such a contract. Many opponents of the policy argue that the cost associated to a golden parachute may be too miniscule compared to the overall cost attached to the merger. Thus, the cost of a golden parachute might not be enough to discourage a merger, which would make them highly ineffective. 

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