Schultz Industries is considering the purchase of Arras Manufacturing. Arras is
ID: 2765195 • Letter: S
Question
Schultz Industries is considering the purchase of Arras Manufacturing. Arras is currently a supplier for Schultz, and the acquisition would allow Schultz to better control its material supply. The current cash flow from assets for Arras is $6.5 million. The cash flows are expected to grow at 8 percent for the next five years before leveling off to 5 percent for the indefinite future. The cost of capital for Schultz and Arras is 12 percent and 10 percent, respectively. Arras currently has 3 million shares of stock outstanding and $25 million in debt outstanding.
What is the maximum price per share Schultz should pay for Arras?
Explanation / Answer
Year
cash flows
PV @ 10%
PV cash flows
1
$ 6.50000
0.90909
$ 5.90909
2
$ 7.02000
0.82645
$ 5.80168
3
$ 7.58160
0.75131
$ 5.69613
4
$ 8.18813
0.68301
$ 5.59257
5
$ 8.84318
0.62092
$ 5.49091
Terminal value
$ 83.9602
0.62092
$ 52.13257
Total cash inflows
$ 80.62295
Value of the firm = $80.62295 million - $25million
= $55.62295 million
Price per share = $55.62295 million / $3million
= $18.541
Therefore, the maximum price per share Schultz should pay for Arras is $18.541.
Year
cash flows
PV @ 10%
PV cash flows
1
$ 6.50000
0.90909
$ 5.90909
2
$ 7.02000
0.82645
$ 5.80168
3
$ 7.58160
0.75131
$ 5.69613
4
$ 8.18813
0.68301
$ 5.59257
5
$ 8.84318
0.62092
$ 5.49091
Terminal value
$ 83.9602
0.62092
$ 52.13257
Total cash inflows
$ 80.62295
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