Definition
A control premium is an amount that a buyer is sometimes willing to pay over the current market price of a publicly traded company. This premium is paid in order to acquire a controlling share, typically over 50%, in that company. The control premium reflects the power and benefits the buyer gets to exercise control over the company’s operations and decision-making processes.
Key Takeaways
- A Control Premium refers to 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. This is because gaining control often allows for direct influence over the company’s operations and strategic direction.
- In merger and acquisition scenarios, control premiums can significantly drive up the acquisition price. Because acquiring control comes with benefits, buyers will often pay a premium for this. The size of the premium can vary widely depending on various factors such as the specific industry and the degree of perceived benefit from gaining control.
- Control premiums are also a significant consideration in fair value calculations, particularly in business valuation and in the valuation of stock for reporting purposes. Analysts should carefully consider whether a control premium is applicable in the context of their specific valuation task.
Importance
The finance term Control Premium is important because it reflects the additional value or cost that an acquirer is willing to pay to gain control over a company. When acquiring a majority stake in a company, the acquirer effectively obtains the power to manage the company’s assets, strategic decisions, and operations.
This control comes with a potential valuation upside due to synergies, cost-cutting, or growth prospects, which can boost the value of the company. However, it also carries risks and liabilities.
As such, a control premium is often seen as a balance between the expected value created by the acquisition and the risks involved. It plays a significant role in M&A transactions, company valuation, and investment strategies and can impact the negotiation strategies of both the acquirer and the acquirer’s target.
Explanation
A control premium refers to an additional amount or a premium that an investor is willing to pay over the current market price of a publicly traded company in order to acquire a controlling stake. This controlling stake usually falls at or above the 50% ownership level, granting the investor a greater influence over the company’s strategic decisions, operational mechanics, asset utilization, and even the power to influence acquisitions or merger decisions.
In simpler terms, acquiring majority control means having a greater level of managerial input, consequently driving the investor to pay more than the current market price for that privilege. Control premiums generally exist due to the value that investors see in being able to directly impact a company’s operations and strategic trajectory.
Hence, its purpose is essentially tethered to the acquisition of power and control. It’s especially pertinent in the context of M&A (Mergers and Acquisitions) where investors might anticipate increased synergies, improved efficiencies, or other operational improvements as a result of gaining control.
Moreover, this premium also reflects the potential for future economic benefits that the controlling shareholder expects to extract from the company. Thus, in essence, a control premium is a strategic investment tool activated when an investor sees an opportunity for gains via direct intervention or manipulation of company operations.
Examples of Control Premium
Acquisition of Whole Foods by Amazon: In 2017, Amazon acquired Whole Foods for an approximate sum of $
7 billion. The purchase price per share of Whole Foods was $42, which was 27% higher than the market price before the announcement. This 27% is considered as control premium, as Amazon paid over and above the market price in order to gain control over Whole Foods and its operations.
Facebook’s Acquisition of WhatsApp: In 2014, Facebook acquired WhatsApp for a whopping $19 billion, when the market valuation of WhatsApp was substantially lower. The difference between what Facebook paid and the market price is considered as control premium, since Facebook paid extra to gain complete control of WhatsApp.
Microsoft’s Acquisition of LinkedIn: Microsoft acquired LinkedIn in 2016 for $
2 billion which was about 50% more than LinkedIn’s market value. Hence, the control premium paid was around 50%. The reason for Microsoft to pay a higher price than the market value is to have exclusive control over LinkedIn, to access its data, technology, and potential synergies that can be achieved by combining LinkedIn’s social network with Microsoft’s cloud services.
FAQs on Control Premium
1. What is Control Premium?
Control Premium refers to an amount that a buyer is willing to pay in excess of the current market price for a publicly traded company. It’s the additional cost that an acquirer has to pay to gain control of a company.
2. How is Control Premium calculated?
Control Premium is calculated as the percentage difference between the cost to buy controlling interest in a company and the current market price of the company’s stocks. It is usually expressed as a percentage of the minority share price.
3. Why is Control Premium important?
Control Premium is important because it provides an incentive to the owners of the company to sell their controlling interest. It can significantly affect the valuation and the final price of the company in a merger or an acquisition.
4. How does Control Premium affect minority shareholders?
Control premium can have a negative impact on minority shareholders. If the controlling shareholder sells their stake at a price higher than the current market price, the minority shareholders will not benefit from this premium unless they also have an opportunity to sell their shares at the same price.
5. Can there be a negative Control Premium?
No, control premium cannot be negative. It always represents the additional amount over and above the current market price which a acquirer is willing to pay to gain control in a company.
Related Entrepreneurship Terms
- Acquisition Premium
- Minority Interest
- Mergers and Acquisitions
- Shareholder Value
- Equity Stake
Sources for More Information
- Investopedia: A trusted online resource for a wide variety of financial and investing education.
- Corporate Finance Institute (CFI): A professional certification organization that provides online financial modeling and valuation courses.
- Morningstar: A global financial services firm providing a broad array of investment research and management services.
- Fidelity: An international brokerage firm known for its research and data.
