final_VD - Chapter 21 1 Which of the fol owing statements...

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Unformatted text preview: Chapter 21: 1. Which of the fol owing statements is most CORRECT? a. If a company that produces military equipment merges with a company that manages a chain of motels, this is an example of a horizontal merger. b. A defensive merger is one where the firm's managers decide to merge with another firm to avoid or lessen the possibility of being acquired through a hostile takeover. c. Acquiring firms send a signal that their stock is undervalued if they choose to use stock to pay for the acquisition. d. None of the statements above is cor ect. e. Answers a and c are cor ect. 2. Which of the fol owing statements is most CORRECT? a. Tax considerations often play a part in mergers. If one firm has excess cash, purchasing another firm exposes the purchasing firm to additional taxes. Thus, firms with excess cash rarely undertake mergers. b. The smal er the synergistic benefits of a particular merger, the greater the scope for striking a bargain in negotiations, and the higher the probability that the merger wil be completed. c. Since mergers are frequently financed by debt rather than equity, a lower cost of debt or a greater debt capacity are rarely relevant considerations when considering a merger. d. Managers who purchase other firms often assert that the new combined firm wil enjoy benefits from diversification, including more stable earnings. However, since shareholders are free to diversify their own holdings, and at what’s probably a lower cost, diversification benefits is general y not a valid motive for a publicly held firm. e. Al of the answers above are cor ect. 3. Which of the fol owing statements is most CORRECT? a. Leveraged buyouts (LBOs) occur when a firm issues equity and uses the proceeds to take a firm public. b. In a typical LBO, bondholders do wel but shareholders see their value decline. c. Firms are forbidden by law to sel any assets during the first five years fol owing a leveraged buyout. d. Al of the answers above are cor ect. e. None of the answers above is cor ect. 4. Great Subs, Inc., a regional sandwich chain, is considering purchasing a smal er chain, Eastern Pizza, which is cur ently financed using 20% debt at a cost of 8%. Great Subs' analysts project that the merger wil result in incremental free cash flows and interest tax savings of $2 mil ion in Year 1, $4 mil ion in Year 2, $5 mil ion in Year 3, and $117 mil ion in Year 4. (The Year 4 cash flow includes the horizon value of $107 mil ion.) The acquisition would be made immediately, if it is to be undertaken. Eastern's pre-merger beta is 3.1, and its post-merger tax rate would be 34%. The risk-free rate is 6%, and the market risk premium is 5.5%. What is the appropriate rate to use in discounting the free cash flows and the interest tax savings if you use the Adjusted Present Value approach?...
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