Consider the following information for two firms involved in a merger:
|
|
Bidder
|
Target
|
|
Revenues
|
$1,500
|
$450
|
|
Expected EB1T next year
|
$500
|
$100
|
|
Tax rate
|
30%
|
30%
|
|
Beta (Levered)
|
1
|
1
|
|
Debt to capital ratio
|
15%
|
15%
|
|
Cost of equity
|
8.00%
|
8.00%
|
|
Pre-tax cost of debt
|
5.00%
|
5.00%
|
|
Expected growth rate (& Risk free rate)
|
2%
|
2%
|
|
Invested capital
|
$1,000.00
|
$500.00
|
What is the stand-alone value of the target? Hint: assume reinvestments are consistent with the fundamental growth rate, RR = g/ROC
A. $1,546 B. $924 C. $1,052 D. $1,127 9.
Now, suppose that the motivation for this merger is that the bidder believes that due to cost synergies the target's operating margin will increase by 25% (and so expected EBIT next year will increase). The target will increase reinvestments so that the new reinvestment rate is still consistent with the fundamental growth rate. If the other aspects of the target do not change, what is the post-merger value of the target?
A. $1,238 B. $1,455 C. $987 D. $1,364