Hastings Corporation is interested in acquiring Vandell Corporation. Vandell has
ID: 2719419 • Letter: H
Question
Hastings Corporation is interested in acquiring Vandell Corporation. Vandell has 1 million shares outstanding and a target capital structure consisting of 30% debt. Vandell's debt interest rate is 7.8%. Assume that the risk-free rate of interest is 4% and the market risk premium is 7%. Both Vandell and Hastings face a 40% tax rate.
Hastings estimates that if it acquires Vandell, interest payments will be $1,500,000 per year for 3 years. Suppose Hastings will increase Vandell's level of debt at the end of Year 3 to $27.7 million so that the target capital structure will be 45% debt. Assume that with this higher level of debt the interest rate would be 8.0%, and assume that interest payments in Year 4 are based on the new debt level from the end of Year 3 and new interest rate. Again, free cash flows and tax shields are projected to grow at 5% after Year 4.
What is the value of the unlevered firm? Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answer to two decimal places. Do not round intermediate calculations.
$ ___ million
What is the value of the tax shield? Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answer to two decimal places. Do not round intermediate calculations.
$ ___ million
What is the maximum price that Hastings would bid for Vandell now? Enter your answer in millions. For example, an answer of $1.2 million should be entered as 1.2, not 1,200,000. Round your answer to two decimal places. Do not round intermediate calculations.
$ ___ million
Explanation / Answer
TaxRate(tr) 40% year(t) 1 2 3 4 rD 7.80% 7.80% 7.80% 8% Interest 15,00,000 15,00,000 15,00,000 2216000 Interst in yr 4=0.08*27700000 TaxShield(tr*Intrest) 600000 600000 600000 886400 TerminalvalueTaxShield 31024000 (=TaxShield in year 4*(1+5%)/(0.08-0.05) Tax shield CF 600000 600000 600000 31910400 PV of tax shield(CF/(1+rD)^t 556586.2709 516313.8 478955.3 764182.7 Value of TaxShield 23,16,038 $ 2.32 million
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