Question

d) What is the cost of the acquisition if Firm A offers one share of Firm A for every

three shares of Firm B? (10%)

e) How would the cost of the cash offer and the share offer alter if the expected growth rate of Firm B were not changed by the merger? (explain your calculations). (20%)

f) There are many tools to acquire companies, discuss the difference between leveraged buyout and

management buyout, provide an example.

(15%)

Question 2

As treasurer of Firm A., you are investigating the possible acquisition of Firm B. You have the following data:

•  You estimate that investors currently expect a steady growth of about 6% in Firm B’ earnings and dividends. Under new management this growth rate would be increased to 8% per year, without any additional capital investment required.

•  Assume that the cost of equity remains unchanged and the Firm A's equity value also remains unchanged.

	Firm A	Firm B
Earnings per share	£8.00	£2.30
Dividend per share	£3.00	£1.20
Number of shares	1,500,000	900,000
Stock price	£90	£30

Answer 1

Part (d)

Calculation of cost of acquisition
(Firm -A offeres 1 share for every three shares in Firm -B)
Number of share holders in firm -B	900000
Number of shares offered in firm -A IS (900000/3)=100000 Shares
Current market price of Firm -A 's share	90
Therefore the cost of acquisition is (100000 x 90)	9000000

Other workings

	(Amount in pounds)
Calculation of cost of capital of Firm "B"
Formula is = (Dividend /Current market Price ) + Growth %
Dividend	1.2
Stock price	30
Growth rate	6%
Cost of capital =(1.2/30) x 6%	10%
After acquisistion the growth rate becomes 8%
Therefore the stock price after acquisistion is calculated as follows
Dividend /(Cost of capital -Growth rate)
(1.2 / (10%-8%)	60
Stock price after acquisition is 60
The increase in value (60-30) x 900000	27000000

Part (e)

Cost of cash offer and share offer alter if expected growth rate of firm-B is not changes
Current cost of capital (calculated above)	10%
If growth rate not changed the cost capital will be same
And the share price will be same (30)

Part (f)

Leveraged buyout

Leveraged buyouts is the purchase of an asset or the equity of a company where the buyer uses a significant amount of debt and a very little equity capital of his own for the payment of consideration for acquisition

Management Buyouts

Management Buyouts is the purcahse a business by its management ,who when threated with the sale of its business to third parties or frustrated by the slow growth of the company,step in and acquire the business from the owners and run the business for themselves