How to value company in M&A transactions

Basically, this methods frequently being used:

1. Deal Comparable
2. Firm Comparable
3. Discounted Cash Flow (using WACC and Adjusted Present Value)

Deal Comparable: use recent M&A deals in target's industry; calculate comparable ratios such as: Price Earnings (P/E) ratio, revenue based multiple, cash-flow multiple, book-value based multiple.
Disadvantages:  simple one dimensional view of valuation (a single denominator: sales, EBIDTA); small sample size, deals in the past would not be the same concurrence with the present, based on outdated valuations and time mismatch.

Firm Comparable: compare between similar (peer) firms to target; determined a range of valuation based on appropriate multiples and placed the target within the range.
Disadvantage: simple one dimensional valuation; does not incorporate synergies and control benefits; does not incorporate shareholders resistance; subject to creative accounting.

Discounted Cash Flow: more complex valuation, but could incorporate synergies and control benefits and M&A dynamics; may avoid accounting manipulations.
Requirements:

• needs adjustments for financing effects (ex: tax shield. finance vs operating lease)
• adjusted annual free cash flow by adjusted after tax WACC (be careful: please handle tax adjustments to discount rates, might be incorrect substitutes)
• adjusted annual free cash flow by APV (adjusted present value) -- First, value the firm assuming all equity financing (discounted at the un-levered cost of equity) and then add on the present value of the tax shield. Note: APV will give different valuation instead of WACC, however APV is more suitable for highly levered situations.

Google -- Motorola

In 2001, Google paid $12.5 billion for Motorola Mobility which represents a 65% premium on a struggling firm.

Breakdown of purchasing price:

• Patents: $5.5 billion
• Cash: $2.9 billion
• Goodwill / synergies: $2.6 billion
• Customers: $0.73 billion
• Others: $0.67 billion
• Total: $12.5 billion

Compared to book assets of Motorola of:

• Cash: $3.5 billion
• Other current assets: $3.2 billion
• PPE: $0.8 billion
• Goodwill: $1.4 billion
• Other assets: $0.7 billion
• Total: $9.6 billion

Q: Why this number differ significantly? Is this premium price reasonable?

Possible answers:

1. Google might pay Motorola a premium price because of valuable Motorola's intangible assets (such as patents, goodwill, trademarks, etc) which drives from Motorola's technology advance and complementary R&D capabilities. Although this premium is still questionable as this intangible assets are hardly to quantify as precise and accurate, but Google might expect the intrinsic value will result in future benefits and could be amortised annually as goodwill of combined firms.
2. The offers might be unreasonable, since we consider about the nature of intangible assets, but in this case, by considering future cash flows, Google really give a bear hug to Motorola business and technology advance. Lots number are different, but the intense of this offer is about the appreciation of the company's intangible future performance. For example, google might consider to integrate their online business with mobile technology, since Motorola holds several mobile techno patents and rights. Customers good relationships could be quantify in synergic benefits, although in book value accounting of Motorola not recorded this number.