Bara Ltd. is contemplating a bid for the share capital of Pwani Ltd. with an intention of buying the whole company. The following data for the two companies have been provided.
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Bara Ltd.
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Pwani Ltd.
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Number of shares
Share price
Latest equity earnings
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3,000,000
Sh. 150
Sh. 675 million
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8,000,000
Sh. 30
Sh. 80 million
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After acquisition, Bara Ltd. intends to sell a division of Pwani Ltd. which accounts for Sh.20 million annually in equity earnings. The division does not form part of the core business of the intended group. The division has a current market price of Sh. 50 million.
Bara Ltd.'s management believes that by introducing better management, earnings of Pwani Ltd. could be permanently increased by 25% although the price/earnings multiple will remain the same. To avoid duplication, some of Bara Ltd.'s own property could be disposed of at an estimated price of Sh. 130 million. Rationalisation costs are estimated at Sh. 100 million, these comprise retrenchment and legal costs among others.
Required:
Highlight the advantages of growth by acquisition.
Calculate the effect on the current share price of each company, all other things being equal, of a two for ten share offer by Bara Ltd., assuming that Bara Ltd.'s estimates are in line with those of the market.
Assume that Bara Ltd. is proposing to offer Pwani Ltd.'s shareholders the choice of a two for ten share exchange or a cash alternative. Giving reasons, advise Bara Ltd. whether the cash alternative should be more or less that the current value of the share exchange.