8 classic questions in M&A interviews

In this article, discover 8 classic questions you might encounter during your M&A interviews!

How 10$ depreciation flows across the the three financial statement 

Income Statement: Operating Income would decrease by $10. If we assume a 40% tax rate, Net Income would decrease by $6.

Cash Flow Statement: Net Income is down by $6, but the $10 of Depreciation gets added back because it is a non-cash expense. So overall, the Cash Flow from Operations (CFO) is up by $4. There are no changes to Cash Flow from Financing or Investing activities, so overall the net change in Cash is positive $4.

Balance Sheet: Plants, Property & Equipment (PP&E) decreases by $10 on the Assets side because that's what is being depreciated, but Cash is up by $4 from the Cash Flow Statement. So Assets are down by $6. On the Liabilities & Shareholder's Equity side, Net Income flows into Retained Earnings which is down by $6, so both sides balance.

How to define a good LBO target?

• Market leader.
• Cash-generative.
• Strong and consistent profitability.
• Low investment needs (CAPEX).
• Managerial factors: Low employee turnover and competent management.
• Market characteristics: Stable market, high barriers to entry, limited competition, and expected growth (moderate, not excessive).

What is an earn-out?

An earn-out clause is a contractual provision used in the sale of a business. It stipulates that, in addition to a fixed price paid at the time of the sale, the buyer will pay the seller an additional amount later, based on the future performance of the sold entity.

Criteria: The earn-out payment is made within a specified timeframe and is tied to achieving certain objective and measurable performance indicators (e.g., EBIT, EBITDA).

Advantages:

• For the buyer: Allows tying part of the acquisition price to the company’s future performance, reducing the risk of overpaying and spreads payments over time.
• For the seller: Increases the potential sale price, as the buyer is more willing to pay a higher amount if part of it is contingent on future performance.

What is a carve-out?

A carve-out involves grouping one or more classes of assets into a new legal entity with the intention of selling it. The parent company then sells the shares of this newly created entity, often through a partial IPO.

The parent company typically retains a substantial share (>50%).

Difference from a spin-off: The legal entity did not exist prior to the carve-out. A special-purpose entity must be created to house the assets.

What is a spin-off?

A spin-off occurs when a parent company separates a division to create an independent entity with its own shares. Existing shareholders receive shares in the new entity proportionate to their current holdings.

Purpose: Often used to separate non-strategic activities, enabling the parent company to focus on its core business while generating cash.

Difference from a carve-out: In a spin-off, the legal entity already exists before the operation

What causes stock prices to rise?

A Tender Offer (OPA): An offer by a company to purchase shares of a publicly traded company, typically at a premium to the current stock price, which can drive the price up.

Squeeze-Out Offer (OPR): Occurs when a majority shareholder owning at least 90% of shares offers to buy the remaining shares, usually leading to delisting.

Strong Performance: Release of revenue or financial results that exceed expectations.

Positive Analyst Opinion: Favorable recommendations from financial analysts.

What causes stock prices to fall?

Market Decline: A drop in major indices (e.g., CAC 40) reflects weakened economic conditions, leading to lower stock prices.

Capital Increase: Issuing additional shares dilutes earnings, reducing stock prices.

Poor Performance: Revenue or earnings results below expectations.

Dividend Cuts: Decisions to reduce or eliminate dividends can negatively impact stock prices.

What is Market Risk Premium (MRP) ? 

Expressed as a percentage, the market risk premium represents the difference in returns between a risk-free investment (e.g., government bonds) and a riskier one (e.g., equities). It reflects the compensation investors require for taking on additional risk.