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Hello sir!
the answer in the Kaplan kit seems completely wrong. They calculated the gain to the shareholders based on firm values rather than equity values if we use equity values as we always do in every single question Then the shareholders make a loss.In the question the target company’s firm value was 40,095,000 and the debt-to-equity ratio was 10:90 so the value of equity would be 36,085,500. The firm value of the combined company was 189,169,000 and it was calculated based on WACC with the debt-to-equity ratio of 50:50 so the equity value should be 94,584,500 the pre-acquisition value of the acquiring company was $70m ($140m firm value and 50:50 gearing). So, on that basis the value of the shareholders decreases and there are no synergy benefits.
Equity value of the combined company: 94,584,500
Total value of the individual companies: 110,095,000But the Kaplan answer gives $52000 dollars gain. I do not know why the gain is calculated based on firm value the question explicitly says gain to shareholders. can you please explain
(My values were slightly different because I used the spreadsheet function. here I used the values in the Kaplan kit.)
The question asks you to calculate the value of the firm as a whole.
Any gains in the resulting value all go to shareholders. Debt lenders do not make gains 🙂
But sir with every other question if the question states that the debt-to-equity ratio remains the same, we use that ratio to calculate the value of the equity of combined company and the benefits to shareholders are calculated based on the increase in equity value if you look at JOSHUA CO (MAR/JUN 23) and CHIKEPE CO (MAR/JUN 18) both have a similar set of circumstances and we calculate gain to them based on increased in equity rather than firm value.
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