In: Finance
The shareholders of Flannery Company have voted in favor of a
buyout offer from Stultz Corporation. Information about each firm
is given here:
Flannery | Stultz | |||||
Price–earnings ratio | 12.8 | 35 | ||||
Shares outstanding | 96,000 | 350,000 | ||||
Earnings | $ | 210,000 | $ | 840,000 | ||
Flannery’s shareholders will receive one share of Stultz stock for
every three shares they hold in Flannery.
a-1. What will the EPS of Stultz be after the
merger? (Do not round intermediate calculations and round
your answer to 3 decimal places, e.g., 32.161.)
EPS $
a-2. What will the PE ratio be if the NPV of the
acquisition is zero? (Do not round intermediate
calculations and round your answer to 2 decimal places, e.g.,
32.16.)
PE
b. What must Stultz feel is the value of the
synergy between these two firms? (Do not leave the cell
blank. Enter "0" if there is no value. Do not round intermediate
calculations.)
Synergy value
$
Solution:
a-1
The formula to calculate the EPS of Stultz after merger is as follows:
EPS after merger = (earnings of Flannery + earnings of Stultz + Synergy amount) / (total number of shares of Stultz + (total number of shares of Flannery * exchange ratio))
= ($210,000 + $840,000 + 0) / {350,000 + (96,000 * (1/3))}
= $1,050,000 / 382,000
= $2.749
Hence, the EPS of Stultz after the merger is $2.749.
a-2
At acquisition, if the NPV is zero. In such a case, the market price per share (MPS) of Stultz remains the same.
The formula to calculate the MPS is as follows:
MPS of Stultz = price-earning (P/E) ratio * EPS
= 35 * ($840,000 / 350,000)
= 35 * $2.4
= $84
Hence, the MPS of Stultz is $84.
If the acquisition results in zero NPV, then, the MPS after merger remains the same.
The formula to calculate the P/E ratio after merger is as follows:
P/E ratio = MPS after merger / EPS after merger
= $84 / 2.749
= 30.56 times
Hence, the P/E ratio after merger is 30.56 times.
b.
The formula to calculate the synergy considering earnings as a base between the two firms is as follows:
Synergy = {EPS after merger * (total number of shares of Stultz + (total number of shares of Flannery * exchange ratio))} – (earnings of Stultz + earnings of Flannery)
= {$2.749 * (350,000 + (96,000 * (1/3)))} – ($840,000 + $210,000)
= {$2.749 * 382,000} – ($1,050,000)
= $1,050,118 - $1,050,000
= $118
Hence, the synergy amount between the two firms is $118.
Note: The synergy amount is almost negligible. Therefore, it is possible that the Stultz is motivated to acquire the Flannery is due to any non-financial reason.