a) Firm A has a total value of US$10 million and firm B has a total value of US$
ID: 2787870 • Letter: A
Question
a) Firm A has a total value of US$10 million and firm B has a total value of US$5 million.
If the two firms merge, there will be a cost saving of US$2 million. Calculate any
incremental gain from the merger. (3 marks)
b) An excerpt from the financial data of firms A and B is given below. Both firms have
agreed to merge with firm B taking over firm A. The exchange ratio for the merger will
be 1:3, meaning that the stockholders of A will receive 1 share of firm B in lieu of every
3 shares they currently hold in firm A.
Item Firm A Firm B
P/E Ratio US8.192 US16
Shares Outstanding 96,000 200,000
Earnings US250,000 US800,000
EPS US$2.6042 US4.00
It is estimated that the NPV from the acquisition will be zero, meaning that the benefits
and costs of the merger will be equal.
Using the presented information, comment on whether the merger will lead to a growth
in earnings for the combined firm. (7 marks)
c) Fill in the following blanks about mergers.
I. If Sears were to acquire one of its appliance suppliers, this would be an example
of ________ merger.
II. The acquisition of McDonnell Douglas by Boeing is an example of _____merger.
III. A ___________ creates a brand new firm by merging existing entities.
IV. _________ is the amount of cash or securities that are offered for the merger.
V. A small group of investors buy out all the equity shares of a public firm and the
firm becomes a private limited company. This merged arrangement is called
_______________ (5 marks)
Explanation / Answer
Answer to questuion (a) :-
Incremental gain from merger = cost saving from merger = US$2 million
Answer to questuion (b) :-
Total shares of the merged company = 96000/3*1 + 200000 = 232,000 shares
Total earnings for the merged co. = $250000 + $800000 = $ 1,050,000
EPS of the merged co. = $ 1.050,000/232000 = $4.5259
Therefore the merger will leadh in earnings to growth in earnings for the combined firm by $0.5259
Answer to questuion (c) :-
I. Vertical
When 2 or more firms operating at different levels within an industry's supply chain merge it is
a vertical merger.
II. Conglomerate
Mc Donnell Douglas and Boeing being involved in unrelated bussiness operations there merger is Conglomerate merger
III. Consolidation
IV. Value of acquisition
V. Reverse merger
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