1. You are employed in the Finance Division of a firm that has 418,575,000 share
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Question
1. You are employed in the Finance Division of a firm that has 418,575,000 shares outstanding.
The current share price is $43.76. The forecast earnings are $1,578,570,000.
Calculate the current market value of firm equity and the earnings per Share (EPS).
The firm has accumulated a stockpile of $1,750,000,000 in excess cash, and the directors want to pay-out these funds to the shareholders. You have been asked to compare the effects of a special one-time dividend and a share repurchase.
If the funds are paid out as a one-time special dividend, what will be the dividend per share
(DPS)? What is the firm value after the dividend? What is the share price after the dividend?
What is the EPS after the dividend?
If the firm executes a share repurchase, how many shares can it purchase at what price? How many shares will remain? What is the firm value after the repurchase? What is the share price after the repurchase? What is the EPS after the repurchase?
2. Donovan Inc. is considering an acquisition of Gilhooly Corp. Donovan has 3,753,480 shares outstanding selling for $47.31. Gilhooly has 1,628,540 shares outstanding selling for $30.84.
What are the market values of both firms? In a stock-for-stock offer how many shares of
Donovan stock will each Gilhooly equity holder receive for his share (if they allocate purely on the basis of the current prices)? If there are no synergies, what is the value of the combined entity? How many shares will be outstanding after the acquisition? What is the value of eachshare? What portion of the stock will the old Donovan shareholders hold in the firm after the acquisition?
Next, assume that Donovan has adequate excess-cash-on-hand to pay each shareholder of Gilhooly $11.50. If they wish to make an acquisition based on a combination of stock and cash, how many shares of Donovan stock must each Gilhooly equity holder be given to buy-out the remainder of his share beyond the $11.50? If there are no synergies, what will be the value of the combined firm (recall that each shareholder of the Gilhooly stock is being given $11.50, so the value of the firm will decline accordingly)? How many shares will be outstanding after theacquisition? What is the value of each share?
What portion of the stock will the old Donovan shareholders own in the firm after the acquisition?
Finally, presume that the merger will create synergies that have a present value of $18,000,000.
Assume the two firms execute a straight stock-for-stock offer at the exchange ratio calculated in the first example above. What is the firm value, the number of outstanding shares, and the share price after the acquisition?
Explanation / Answer
No of shares outstanding 418,575,000
Market price per share (MPS) $43.76.
Total earnings $1,578,570,000.
Current market value of firm equity = No of shares * MPS
= 418,575,000 * $43.76
= $18,316,842,000
Earnings per Share (EPS) = Total earnings/No of shares
= $1,578,570,000/418,575,000
= 3.77
Option I – Dividend distribution
Funds available $1,750,000,000
DPS = Funds available/No of shares outstanding
= $1,750,000,000/418,575,000
= $4.18
Firm value after the dividend = Current market value of firm equity - Cash dividend distributed
= $18,316,842,000 - $1,750,000,000
= $16,566,842,000
Share price after the dividend = Firm value after the dividend/ No of shares outstanding
= $16,566,842,000/418,575,000
= $ 39.58
EPS after the dividend = Earnings per is unaffected due to dividend distribution
Option II – Shares repurchase
Funds available $1,750,000,000
Shares will be purchased at ex-dividend market price per share i.e. $ 43.76
No of shares can be purchased = Funds available /Ex-dividend market price per share
= $1,750,000,000/$ 43.76
= 39,990,859
No of shares remaining after purchase = No of shares outstanding - No of shares purchased
= 418,575,000 - 39,990,859
= 378,584,141
Firm value after the repurchase = Current market value of firm equity - Cash for repurchase
= $18,316,842,000 - $1,750,000,000
= $16,566,842,000
Share price after the repurchase = Firm value after the repurchase/ No of shares after purchase
= $16,566,842,000/378,584,141
= $ 43.76
Remains the same, as shares are purchased at market value.
EPS = $1,578,570,000/378,584,141
= 4.17
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