Managerial Finance

a Chapter Wn 2)-l ? )2'2,- t', &o k 903 t 22 Mergers and Corporate Control (sr-1) Valuation Red Valley is considering an acquisition of Flagg Markets' Fiagg currently has a cost of equity of 10%; of its financing is in the form of and the rest is in common equity. Its federal-plus: tax rate is 407o. uisition, Red Vailey expects Flagg to have the following FCFs the next 3 years (in millions): Year 2 Year 3 $10.00 $20.00 $2s.00 24.00 20.28 Year 1 exPense After the free cash flows are expected to at a constant rate of 5D/a, and the capital will stabilize at 35o/o debt with an rate of 7o/o. 'u. Wtrut is Flagg's unlevered cost of equity? What its levered cost of equity and cost of capital for the post-horizon period? b. Uiing the adjusted present value approach, what is Flagg's value of operations to Red Valley? Easy Problem 1 ,,R Intermediate' Problems 2-3 ,"rr*,rrl, The fotlowing infonnation is required to work Problems 22-1 through 22-4' Hastings Corporation is interested in acquiring Vandell Corporation. Vandell has 1 million shares outstanding and a target capitai structure consisting csf 30o/o debt. Yandell's debt interest rate is 8%. Assume that the risk-free rate of interest is 5% and the market risk premium is 6%. Both Vandell and Hastings face a 40oio tax rate. Vandell's free cash flotv (FCFo) is $2 million per year and is expected to grow at a constant rate of 5o/o afear; its beta is 1.4. What is the value of Vandell's operations? If Vandell has $10.82 million in debt, what is the current vaiue of vandell's stock? (Hint: Use the corporate vaiuation model from Chapter 7') Hastings estimates that if it acquires Vandell, interest pa)'rnents will be $1.5 million per year for 3 ,vears, after which the current target capital structure of 30% debt will be maintained. Interest in the fourth year will be $i.472 milIion, after which interest and the tax shield will grow at 5%o. Synergies wili cause the free cash flows to be $2.5 million' $2.9 million, $3.4 million, and $3.57 million in Years I through 4, respectively, after which the free cash flows will grow at a 5% rate. What is the unlevered value of Vandeli, and what is the value of its tax shields? what is the per share vaiue of vandell to Hastings that Vandell now has $10.82 lulli On the basis of your answers to Probierns 2TL and22-2, indicate the range of possible prices that could bid for each share of Vandell Assuming the same 22-2, suppose Hastings will increase Vandell's level of debt at 'ear 3 to $30.6 million so that the target capital structure is now 45o/,, debt. that with this higher level of debt the interest rate at payments in Year 4 are based on the new debt (22-3) Merger Bid tll:eil.e:rpi"rrgFr,r,i:ic*:r ,l^.li (22-41 Merger Valuation with Change in Capital Stmcture would be 8.5%, and level from the end of 3anda interest rate. Again, free cash flows and tax shields Solutlon Appears ln APPenclix A