[jay0v]

Thank you 😀 was a big deal for me now a piece of cake

[jay0v]

Thank you for the great explanation sir,

They have a part in the question in the end which I actually missed to type here and also didn’t read properly:

‘Anderson Co is planning to make a cash offer of $80m to buy 100% of the shares of Webb Co. The cash offer will be funded by additional borrowing.’

My apologies and thank you for making it clear.
You’re a great teacher.

[jay0v]

I’m confused with the part
‘Add Vd(1-T)Kd to both sides
KeVe + KdVd(1-T) = KeiVe + Kei Vd(1-T) = Kei ( Ve + Vd (1-T))’

Please rearrange with these values:

12% = kei + (1 – 0.30) (kei – 4%) (20/80)

[jay0v]

Question:

Anderson Co is planning to take over Webb Co, a company in a different business sector, with a different level of risk. Anderson Co’s free cash flows are forecast to be $50m per annum in perpetuity, Webb Co’s free cash flows are forecast to be $10m per annum into perpetuity and there are expected to be annual post-tax cash synergies of $5m if the acquisition goes ahead.

The combined company will pay tax at 30% and will have a pre-tax cost of debt of 5%. The risk free rate is 3% and the equity risk premium is 5.8%.

Currently, Anderson Co has an asset beta of 1.25 and Webb Co has an asset beta of 1.60. Assume that the beta of debt is zero.

The current financing of the two companies is:

$million………….. Debt…..Equity
Anderson Co…….50………450
Webb Co……………20………80

Required:

Calculate the gain in wealth for Anderson Co‘s shareholders if the acquisition goes ahead.

Solution:

The asset beta of the combined company is (1.25 x (500/600)) + (1.60 x (100/600)) = 1.31

Therefore, the equity beta of the combined company is (using the asset beta formula from formula sheet and assuming the new gearing is 150 debt to 530 equity):

1.31 x (1 + [0.7 x (150/530)]) = 1.57

Hence, using CAPM, the cost of equity is:
3% + (1.57 x 5.8%) = 12.1%

and so the WACC = (12.1% x (530/680)) + (5% x (1 — 0.30%) x (150/680)) = 10.2%

Therefore, the discounted free cash flows of the combined company are (as a perpetuity):

($50m + $10m + $5m)/0.102 = $637m.

The value of equity is then this:
NPV — the value of debt, i.e.

$637m — $150m = $487m

Hence the shareholder wealth of the Anderson Co shareholders has increased from $450m to $487m as a consequence of the acquisition.

[jay0v]

My bad.. I’ll post the full question + solution soon

[jay0v]

Count me in too: +923114334304

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