Delta Appliances, a publicly traded appliance manufacturer, is considering an acquisition of CafeCoz, a privately owned appliance

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Question:

Delta Appliances, a publicly traded appliance manufacturer, is considering an acquisition of CafeCoz, a privately owned appliance manufacturer. You have been provided with the following information:

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Both companies are in stable growth, growing 3% a year. The risk free rate is 3% and the equity risk premium is 5%. The appliance sector has an unlevered beta of 0.80 and a correlation of 0.40 with the market. The marginal tax rate for all firms is 40%.

a. Value Delta Appliances as a stand alone company.

b. Value CafeCoz as a stand alone company to its existing owner, who is undiversified.

c. Delta plans to acquire CafeCoz, paying twice the owner’s estimated value (from part b) for the company, using a 20% debt to capital ratio (with the after-tax cost of debt remaining at 3%). Estimate the value of Delta Appliances after the transaction.

2.You have been asked to assess the value of synergy in a merger of two entertainment companies, StreamTV, a company that streams only horror movies and DigiMovies, a maker of zombie/cult movies. The details of each company are provided below:

	StreamTV	DigiMovies
Business	Streaming	Content
Revenues (in millions)	$1000	$800
Pre---tax operating income (this year in millions)	$100	$60
Effective tax rate	40.00%	20.00%
Invested capital (in millions)	$800.00	$400.00
Expected growth rate	2%	2%
Cost of capital	10%	10%

a. Estimate the value of the Stream TV as a standalone firm.

b. Estimate the value of DigiMovies as a standalone firm.

c. Now assume that the combined company is planning to do the following:

Hire more movie production staff, increasing operating expenses (pre-tax) by $10 million immediately.
The resulting pre-tax operating income will grow at 5% a year for the next five years. However, the combined company will reinvest the same amount (in dollar terms) that the standalone companies would have invested collectively over the next five years
Move operations to Singapore (which is DigiMovies base) and lower the effective tax rate to 20% for all of the company’s income. The company will face an upfront cost (legal and other) of $150 million to make this move. After year 5, the growth rate is expected to drop back to 2% and the return on invested capital will be whatever the company is expected to generate based on operating income and invested capital in year 5. Estimate the value of synergy in this merger.

3. You have been asked to look at a merger of two pharmaceutical companies, Griffin and Leblow Inc.,, and have been provided the following information on them (with all dollar values in millions of dollars):

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a. Estimate the value of Griffin as a stand-alone company.

b. Estimate the value of Leblow as a stand-alone company.

c. Now assume that the combined company will be able to cut S,G&A expenses by $70 million next year, while keeping expected growth intact. In addition, the combined company will be able to use its larger size (and stability) to increase its debt to capital ratio to 30%, without affecting its pre-tax cost of debt.

Estimate the value of synergy in this merger.

4. You have been asked to estimate the value of synergy in the merger of DirectCom, a movie streaming firm, and Movie Magic, an entertainment company and have been provided with the following information on the two companies:

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Both firms are in stable growth, growing 3% a year in perpetuity.

a. Estimate the value per share of DirectCom, prior to the merger.

b. Estimate the value per share of Movie Magic, prior to the merger.

c. Now assume that combining the two firms will be able to cut annual operating expenses by $18 million (on an after-tax basis), though it will take three years for these costs savings to show up. Estimate the value of synergy in this merger.

d. Assume that both companies were fairly priced before the acquisition and that DirectCom pays a 40% premium over market price to buy Movie Magic. Estimate the value per share for DirectCom after the acquisition.

5. Narnia Enterprises is considering an acquisition of Aslan Inc, motivated by the possibility of synergy. You are given the following estimates for key numbers the two firms (with all dollar values in millions):

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After the merger, Narnia believes that it can sell Aslan’s distribution system for book value; this system accounts for $100 million in invested capital and is expected to have after-tax operating expenses of $10 million next year, without affecting growth or cost of capital. Assuming that both companies were fairly valued before the merger and that Narnia paid a 50% premium (over value) to acquire Aslan, how much value did this merger create or destroy for Narnia’s stockholders?