Question

As the financial manager of Corton Inc., you are investigating a possible acquisition of Denham. You have the basic data given in the following table.

	Corton				Denham
Forecast earnings per share		$	6.20			$	1.70
Forecast dividend per share		$	3.72			$	.91
Number of shares			1,600,000				1,200,000
Stock price		$	90			$	20

You estimate that investors expect a steady growth of about 6% in Denham’s earnings and dividends. Under new management, this growth rate would be increased to 8.53% per year without the need for additional capital.

Required:

1. What is the gain from the acquisition?
2. What is the cost of the acquisition if Corton pays $25 in cash for each share of Denham?
3. What is the cost of the acquisition if Corton offers one share of Corton for every three shares of Denham?
4. How would the cost of the cash offer change if the expected growth rate of Corton was not changed by the merger?
5. How would the cost of the share offer change if the expected growth rate was not changed by the merger?

(For all requirements, do not round intermediate calculations. Enter your answers in millions rounded to 2 decimal places.)

Answer 1

Price to Earning ratio = Current Share Price/Earning Per Share

Estimate Growth = Current EPS +(Current EPS * Growth rate which is 6%)

Actual Growth = Current EPS + (Current EPS * Actual Growth which is 8.53%)

	Corton	Denham	Estimated growth (Denham)	Actual Growth (Denham)	Gain
EPS	$       6.20	$       1.70	$                        1.80	$       1.85	$       0.04
DPS	$       3.72	$       0.91	$                        0.96	$       0.99
Number of shares	1600000	1200000
Share Price	$    90.00	$    20.00
P/E ratio	14.51613	11.76471

Cost of Acquisition = 1,200,000 * $25 = $30,000,000