Finance Tutorial 8 M&A

Question 1:

Evaluate the following comments.

a. “Our cost of debt is high because we’re a pure-play healthcare company and vulnerable to
changes in healthcare regulation. We should buy a water company to diversify and reduce our cost
of debt.”

False. Buying another company will not decrease the cost of debt.

b. “Merge with Fledgling Electronics? No way! Their P/E’s too high. That deal would knock 20% off
our earnings per share”.

False. A deal can be accruting or diluting depending on the acquirer P/E ratio.

c. “Our business is offering cable TV, broadband, and telephone services to households. We should
buy a company that makes TV programmes, so that we can offer better products to our customers.”

False. Vertical integration depends on various things such as capability to produce the tv
programme, cultural clashes, synergies between companies.

Question 2:

Steinberg is investigating a possible merger with Dietrich, which is currently unanticipated by the
market. Here is basic information about the two companies for the last financial year. Both
companies are all-equity financed.

Both Steinberg and Dietrich are mature

firms, with forecasted growth of 2.5% per year. Steinberg’s treasurer believes that post-merger cost
savings could generate a one-time permanent 15% increase in the two firms’ combined earnings.
Dividend payout would increase proportionally, although long-term growth would remain at 2.5%
per year.

a. What is the total merger gain? Hint: use the current stock prices to calculate the current costs of
equity.

Merger gain = synergies

Total EPS = 14.80

Earning after M&A = 14.80 * 15.5 shares * 1.15 = 263.81

Re = Div / Pshare = 6.21%

Vat = Earnings/re = 263.81 / 0.0621 = 4230.56 = Va + Vt + synergies

Va = 60*10 = 600
Vt =85*5.5 = 467.5
Synergies = 4230.56 – 600 – 467.5 = 3163

b. What is the acquisition premium if Steinberg borrows €600 million and pays this amount in cash
for Dietrich?

Premium = 600 - Vt = 600 – 467.5 = 132.5

c. Suppose that Steinberg offers 1.65 Steinberg shares for each Dietrich share. What is the
acquisition premium in this case?

# of shares outstanding = 10 + 1.65*5.5 = 19.075

After deal is completed

Acquired share = 10/19.075 * Vat = 2218
Target Share = (1.65*5.5/19.075)* Vat = 2012.7

3. Nedwin is determined to report earnings per share of $2.67. It therefore acquires the Feldmania
Company. You are given the following facts:

There are no gains from merging. In exchange for Feldmania shares, Nedwin issues just enough of its
own shares to achieve its $2.67 EPS objective.

a.
Total earnings = 700,000

Total Value = 9 mm

EPS = 2.67

Share = 700,000/2.67 = 262.17

Price = Total value / share = 34.33

P/E = price/EPS = 34.33/2.67 = 12.86

b.
100 + ratio * 200 = 262

Ratio = 0.81

c.

d.
V_before = 100k*P = 4000 k
V_after = 100/262.17 * Vat = 100/262.17*9mm = 3433 k
Negative change by -567k.