If the acquisition has a zero NPV, the stock price should remain unchanged.
Therefore, the new PE will be:
P/E = $81/$4.125 = 19.64
b.
The value of Tilbury to Dover must be the market value of the company since the
NPV of the acquisition is zero. Therefore, the value is:
V
*
= $180,000(13.5) = $2,430,000
The cost of the acquisition is the number of shares offered times the share price,
so the cost is:
Cost = (1/3)(90,000)($81) = $2,430.000
So, the NPV of the acquisition is:
NPV = 0 = V
*
+ V – Cost = $2,430.000+
V – 2,430.000
V = $0
Although there is no economic value to the takeover, it is possible that Dover is
motivated to purchase Tilbury for other than financial reasons.
•
EOCE#12:
Consider the following pre-merger information:
Firm A:
Share outstanding 1000 shares, selling at $43, total earnings = $1400
Firm B:
Share outstanding 200 shares, selling at $47, total earnings = $600.
If A acquires B via an exchange of stock at a price of $49 for each share of B’s stock. Both A
and B have no debt.
1.
What will be the EPS of firm A be after the merger?
2.
What will firm A’a price per share be after the merger if the market incorrectly analyzes
this reported earnings growth (that the P/E ratio does not change)?
3.
What will the P/E ratio be if the market correctly
analyzes the transactions?
4.
If there are no synergy gains, what will the share price of A be after the merger? What
will the P/E ratio be?
5.
At what amount did A bid for B? Was it too high or too low?

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Since the stock price of the acquiring firm is $43, the firm will have to give up:
Shares offered = $9,800/$43 = 227.907 shares (assuming NPV = 0)
a.
The EPS of the merged firm will be the combined EPS of the existing firms
divided by the new shares outstanding, so:
EPS = ($1,400 + 600)/(1000 + 227.907) = $1.6288
b.
The PE of the acquiring firm is:
Original P/E = $43/($1,400/1000) = 30.714 times
Assuming the PE ratio does not change, the new stock price will be:
New P = $1.6288(30.714) = $50.03
c.
If the market correctly analyzes the earnings, the stock price will remain
unchanged since this is a zero NPV acquisition, so:
New P/E = $43/$1.6288 = 25.41 times
d.
The new share price will be the combined market value of the two existing
companies divided by the number of shares outstanding in the merged company. So:
P = [(1000)($43) + 200($47)]/(1000 + 227.907) = $42.673
And the PE ratio of the merged company will be:
P/E = $42.67/$1.6288 = 26.19 times
At the proposed bid price, this is a negative NPV acquisition for A since the
share price declines. They should revise their bid downward until the NPV is zero.
Maths on accounting for Mergers:
Firm X
Firm Y
Total earnings
$50000
$18000
Share outstanding
25000
15000
Per share values:

Market value p.s.
$49
$18
Book value p.s.
$20
$7
•
The transaction is cash based with a merger premium of $5 p.s.
•
If no firm has debt then use the purchase method to construct the balance sheet of the
new firm
Since neither company has any debt, using the pooling method, the asset value of the
combined must equal the value of the equity, so:
Assets = Equity = 25,000($20) + 15,000($7) = $605,000
b)
With the purchase accounting method, the assets of the combined firm=
=
book value of Firm X,
+
the market value of Firm Y,
Assets from X = 25,000($20) = $500,000 (book value)
Assets from Y = 15,000($18) = $270,000 (market value)
The purchase price of Firm Y is the number of shares outstanding times the
sum of the current stock price per share plus the premium per share, so:
Purchase price of Y = 15,000($18 + 5) = $345,000
The goodwill created will be:
Goodwill = $345,000 – 270,000 = $75,000
And the total asset of the combined company will be:
Total assets XY = Total equity XY = $500,000 + 270,000 + 75,000 = $845,000