Control premium

A control premium is an amount that a buyer is sometimes willing to pay over the current market price of a publicly traded company in order to acquire a controlling share in that company.

If the market perceives that a public company's profit and cash flow is not being maximized, capital structure is not optimal, or other factors that can be changed are impacting the company's share price, an acquirer may be willing to offer a premium over the price currently established by other market participants. A discount for lack of control, sometimes referred to as a minority discount, reflects the reduction in value from a firm's perceived optimal or intrinsic value when cash flow or other factors prevent optimal value from being reached.

Overview of concept

Transactions involving small blocks of shares in public companies occur regularly and serve to establish the market price per share of company stock. Acquiring a controlling number of shares sometimes requires offering a premium over the current market price per share in order to induce existing shareholders to sell. It is made through a tender offer with specific terms, including the price.

The amount of control is the acquirer's decision and is based on its belief that the target company's share price is not optimized. An acquirer would not be making a prudent investment decision if a tender offer made is higher than the future benefit of the acquisition.

Size of premium

In general, the maximum value that an acquirer firm would be willing to pay should equal the sum of the target firm's intrinsic value, synergies that the acquiring firm can expect to achieve between the two firms, and the opportunity cost of not acquiring the target firm (i.e. loss to the acquirer if a rival firm acquires the target firm instead). A premium paid, if any, will be specific to the acquirer and the target; actual premiums paid have varied widely.

Example

Company XYZ has an EBITDA of $1,500,000 and its shares are currently trading at an EV/EBITDA multiple of 5x. This results in a valuation of XYZ of $7,500,000 (=$1,500,000 * 5) on a EV basis. A potential buyer may believe that EBITDA can be improved to $2,000,000 by eliminating the CEO, who would become redundant after the transaction. Thus, the buyer could potentially value the target at $10,000,000 since the value expected to be achieved by replacing the CEO is the accretive $500,000 (=$2,000,000–$1,500,000) in EBITDA, which in turn translates to $2,500,000 (=$500,000 * 5 or =$10,000,000–$7,500,000) premium over the pre-transaction value of the target.

External links

References

Corporate finance and investment banking

Capital structure

Transactions
(terms / conditions)

Equity offerings	At-the-market offering Book building Bookrunner Corporate spin-off Equity carve-out Follow-on offering Greenshoe Reverse Initial public offering Private placement Public offering Rights issue Seasoned equity offering Secondary market offering Underwriting

Mergers and acquisitions	Buy side Control premium Demerger Divestment Drag-along right Management due diligence Managerial entrenchment Minority discount Pitch book Pre-emption right Proxy fight Post-merger integration Sell side Shareholder rights plan Special situation Squeeze out Staggered board of directors Stock swap Super-majority amendment Tag-along right Takeover Reverse Tender offer

Leverage	Debt restructuring Debtor-in-possession financing Financial sponsor Leveraged buyout Leveraged recapitalization High-yield debt Private equity Project finance

Valuation

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