Pile cp13
Pile cp13
Pile cp13
Answer
Synergy May be defined as follows:
V (AB) > V(A) + V (B).
In other words the combined value of two firms or companies shall be more than their individual
value. This may be result of complimentary services economics of scale or both.
A good example of complimentary activities can a company may have a good networking of
branches and other company may have efficient production system. Thus the merged
companies will be more efficient than individual companies.
On Similar lines, economics of large scale is also one of the reason for synergy benefits. The main
reason is that, the large scale production results in lower average cost of production e.g. reduction in
overhead costs on account of sharing of central services such as accounting and finances, Office
executives, top level management, legal, sales promotion and advertisement etc.
These economics can be real arising out of reduction in factor input per unit of output,
whereas pecuniary economics are realized from paying lower prices for factor inputs to bulk
transactions.
Question 2
Explain the term 'Buy-Outs'.
Write brief notes on Leveraged Buy-Outs (LBO).
Answer
A very important phenomenon witnessed in the Mergers and Acquisitions scene, in recent times is one of
buy - outs. A buy-out happens when a person or group of persons gain control of a company by buying all or
a majority of its shares. A buyout involves two entities, the acquirer and the target company. The acquirer
seeks to gain controlling interest in the company being acquired normally through purchase of shares. There
are two common types of buy-outs: Leveraged Buyouts (LBO) and Management Buy-outs (MBO). LBO is the
purchase of assets or the equity of a company where the buyer uses a significant amount of debt and very
13.2
little equity capital of his own for payment of the consideration for acquisition. MBO is the purchase of a
business by its management, who when threatened with the sale of its business to third parties or frustrated
by the slow growth of the company, step-in and acquire the business from the owners, and run the business
for themselves. The majority of buy-outs is management buy-outs and involves the acquisition by incumbent
management of the business where they are employed. Typically, the purchase price is met by a small
amount of their own funds and the rest from a mix of venture capital and bank debt.
Internationally, the two most common sources of buy-out operations are divestment of parts of larger groups
and family companies facing succession problems. Corporate groups may seek to sell subsidiaries as part of
a planned strategic disposal programme or more forced reorganisation in the face of parental financing
problems. Public companies have, however, increasingly sought to dispose of subsidiaries through an
auction process partly to satisfy shareholder pressure for value maximisation.
In recessionary periods, buy-outs play a big part in the restructuring of a failed or failing businesses and in an
environment of generally weakened corporate performance often represent the only viable purchasers when
parents wish to dispose of subsidiaries.
Buy-outs are one of the most common forms of privatisation, offering opportunities for enhancing the
performances of parts of the public sector, widening employee ownership and giving managers and
employees incentives to make best use of their expertise in particular sectors.
Question 3
What is take over by reverse bid?
Answer
Generally, a big company takes over a small company. When the smaller company gains
control of a larger one then it is called Take-over by reverse bid. In case of reverse takeover, a small company takes over a big company. This concept has been successfully
followed for revival of sick industries.
The acquired company is said to be big if any one of the following conditions is satisfied:
(i)
The assets of the transferor company are greater than the transferee company;
(ii) Equity capital to be issued by the transferee company pursuant to the acquisition
exceeds its original issued capital, and
(iii) The change of control in the transferee company will be through the introduction of
minority holder or group of holders.
Reverse takeover takes place in the following cases:
(1) When the acquired company (big company) is a financially weak company
(2) When the acquirer (the small company) already holds a significant proportion of shares of
the acquired company (small company)
13.3
(3) When the people holding top management positions in the acquirer company want to be
relived off of their responsibilities.
The concept of take-over by reverse bid, or of reverse merger, is thus not the usual case of amalgamation of
a sick unit which is non-viable with a healthy or prosperous unit but is a case whereby the entire undertaking
of the healthy and prosperous company is to be merged and vested in the sick company which is non-viable.
Question 4
Write a short note on Financial restructuring.
(5 Marks) (November 2008) (S), (4 Marks) (May 2013)
Answer
Financial restructuring, is carried out internally in the firm with the consent of its various stakeholders.
Financial restructuring is a suitable mode of restructuring of corporate firms that have incurred
accumulated sizable losses for / over a number of years. As a sequel, the share capital of such firms, in
many cases, gets substantially eroded / lost; in fact, in some cases, accumulated losses over the years
may be more than share capital, causing negative net worth. Given such a dismal state of financial
affairs, a vast majority of such firms are likely to have a dubious potential for liquidation. Can some of
these Firms be revived? Financial restructuring is one such a measure for the revival of only those
firms that hold promise/prospects for better financial performance in the years to come. To achieve the
desired objective, 'such firms warrant / merit a restart with a fresh balance sheet, which does not
contain past accumulated losses and fictitious assets and shows share capital at its real/true worth.
Question 5
What is reverse merger?
Answer
A merger is considered to be the fusion of two Companies. The two Companies which have
merged into another Company in the same industry, normally the market share of the
company would increase. In addition to normal merger (where smaller companies merge into
larger Company), vertical merger (where to companies of different industry merge together),
there is one more hand of merger, known as Reverse Merger.
In this, two Companies are normally of the same industry but here bigger company merges
into smaller company thats why it is called reverse merger. In order to avail benefit of carry
forward of losses which are available as per tax laws, the profit making Company is merged
with companies having accumulates losses. Following three things are very important for
reverse merger.
1.
The assets of transfer company are greater than the transferee company.
2.
Equity Capital to be issued by the transferee company pursuant to the merger exceeds to
original capital.
13.4
Question 6
What is an equity curve out? How does it differ from a spin off?
Answer
Equity Curve out can be defined as partial spin off in which a company creates its own new
subsidiary and subsequently bring out its IPO. It should be however noted that parent
company retains its control and only a part of new shares are issued to public.
On the other hand in Spin off parent company does not receive any cash as shares of
subsidiary company are issued to existing shareholder in the form of dividend. Thus,
shareholders in new company remain the same but not in case of Equity curve out.
Question 7
B Ltd. is a highly successful company and wishes to expand by acquiring other firms. Its
expected high growth in earnings and dividends is reflected in its PE ratio of 17. The Board of
Directors of B Ltd. has been advised that if it were to take over firms with a lower PE ratio than
it own, using a share-for-share exchange, then it could increase its reported earnings per
share. C Ltd. has been suggested as a possible target for a takeover, which has a PE ratio of
10 and 1,00,000 shares in issue with a share price of ` 15. B Ltd. has 5,00,000 shares in
issue with a share price of ` 12.
Calculate the change in earnings per share of B Ltd. if it acquires the whole of C Ltd. by issuing shares at its
market price of `12. Assume the price of B Ltd. shares remains constant.
(8 Marks) (November 2009) (M)
Answer
Total market value of C Ltd is = 1,00,000 x ` 15
PE ratio (given)
Therefore , earnings
Total market value of B Ltd. is = 5,00,000 x ` 12
PE ratio ( given)
Therefore, earnings
= ` 15,00,000
= 10
= ` 15,00,000 /10
= ` 1,50,000
= ` 60,00,000
= 17
= ` 60,00,000/17
= ` 3,52,941
= 1,25,000
= 5,00,000 + 1,25,000 = 6,25,000
13.5
= (` 3,52,941+`1,50,000)/6,25,000
= ` 0.80
= ` 3,52,941 /5,00,000
= ` 0.71
So the EPS affirm B will increase from Re. 0.71 to ` 0.80 as a result of merger.
Question 8
ABC Company is considering acquisition of XYZ Ltd. which has 1.5 crores shares outstanding
and issued. The market price per share is ` 400 at present. ABC's average cost of capital is
12%.Available information from XYZ indicates its expected cash accruals for the next 3 years
as follows:
Year
` Cr.
1
250
300
400
Calculate the range of valuation that ABC has to consider. (PV factors at 12% for years 1 to 3 respectively:
0.893, 0.797 and 0.712).
(4 Marks) (November 2009) (M)
Answer
VALUATION BASED ON MARKET PRICE
Market Price per share
` 400
` 600 Cr.
RANGE OF VALUATION
Per Share
`
Total
` Cr.
Minimum
400.00
600.00
Maximum
498.10
747.15
Question 9
ABC Limited is considering acquisition of DEF Ltd., which has 3.10 crore shares issued
and outstanding. The market price per share is ` 440.00 at present. ABC Ltd.'s average
13.6
cost of capital is 12%. The cash inflows of DEF Ltd. for the next three years are as under:
Year
` in crores
460.00
600.00
740.00
You are required to calculate the range of valuation that ABC Ltd. has to consider.
Take P.V.F. (12%, 3) =0.893, 0.797, 0.712
Answer
Valuation based on Market Price
Market Price per share
Thus value of total business is (3.10 crore x ` 440)
Valuation based on Discounted Cash Flow
Present Value of cash flows
(` 460 Crore x 0.893) + (` 600 Crore X 0.797) +
(` 740 Crore X 0.712 ) =
Value of per share (` 1415.86 Crore / 3.10 Crore)
Range of valuation
Minimum
Maximum
` 440.00
` 1,364.00 Crore
` 1,415.86 Crore
` 456.73 per share
Total (` Crore)
1364.00
1415.86
Question 10
Elrond Limited plans to acquire Doom Limited. The relevant financial details of the two
firms prior to the merger announcement are:
Elrond Limited
Doom Limited
` 50
` 25
20 lakhs
10 Lakhs
The merger is expected to generate gains, which have a present value of ` 200 lakhs. The
exchange ratio agreed to is 0.5.
What is the true cost of the merger from the point of view of Elrond Limited?
(5 Marks) (November 2014)
Answer
Shareholders of Doom Ltd. will get 5 lakh share of Elrond Limited, so they will get:
13.7
5 lakh
= 20% of shares Elrond Limited
20 lakh + 5 lakh
Question 11
X Ltd. reported a profit of `65 lakhs after 35% tax for the financial year 2007-08. An analysis
of the accounts revealed that the income included extraordinary items `10 lakhs and an
extraordinary loss `3 lakhs. The existing operations, except for the extraordinary items, are
expected to continue in the future; in addition, the results of the launch of a new product are
expected to be as follows:
` lakhs
Sales
60
Material costs
Labour Costs
15
10
Fixed costs
65
1 0.35
100
Less:
Extraordinary income
(10)
Add:
Extraordinary losses
3
93
60
Material costs
15
10
Fixed costs
13.8
(33)
27
120
Taxes @ 35%
(42)
78
Capitalization rate
15%
78
=
0.15
Value of business
520
78
(11)
67
` 67,00,000 =
` 1.675
` 40,00,000
PE ratio
`13.40
Question 12
Eagle Ltd. reported a profit of ` 77 lakhs after 30% tax for the financial year 2011-12. An
analysis of the accounts revealed that the income included extraordinary items of ` 8 lakhs
and an extraordinary loss of `10 lakhs. The existing operations, except for the extraordinary
items, are expected to continue in the future. In addition, the results of the launch of a new
product are expected to be as follows:
` In lakhs
Sales
70
Material costs
Labour costs
20
12
Fixed costs
10
Calculate the value of the business, given that the capitalization rate is 14%.
(ii) Determine the market price per equity share, with Eagle Ltd.s share capital being
comprised of 1,00,000 13% preference shares of `100 each and 50,00,000 equity shares
of `10 each and the P/E ratio being 10 times.
(8 Marks) (November 2012)
13.9
Answer
(i)
77
1 0.30
Less: Extraordinary income
Add: Extraordinary losses
(8)
10
112
(` Lakhs)
70
20
12
10
(42)
28
140.00
42.00
98.00
0.14
700
` 98,00,000
` 13,00,000
` 85,00,000
50,00,000
` 85,00,000
=
50,00,000
PE ratio
Market price per share
` 1.70
10
` 17
Question 13
The equity shares of XYZ Ltd. are currently being traded at ` 24 per share in the market. XYZ
Ltd. has total 10,00,000 equity shares outstanding in number; and promoters' equity holding in
the company is 40%.
PQR Ltd. wishes to acquire XYZ Ltd. because of likely synergies. The estimated present value
of these synergies is ` 80,00,000.
13.10
Further PQR feels that management of XYZ Ltd. has been over paid. With better motivation,
lower salaries and fewer perks for the top management, will lead to savings of ` 4,00,000 p.a.
Top management with their families are promoters of XYZ Ltd. Present value of these savings
would add ` 30,00,000 in value to the acquisition.
Following additional information is available regarding PQR Ltd.:
Earnings per share
:`4
: 15,00,000
: ` 40
Required:
(i)
What is the maximum price per equity share which PQR Ltd. can offer to pay for XYZ Ltd.?
(ii) What is the minimum price per equity share at which the management of XYZ Ltd. will be
willing to offer their controlling interest?
(4 + 2 = 6 Marks) (May 2014)
Answer
(a) Calculation of maximum price per share at which PQR Ltd. can offer to pay for XYZ Ltd.s
share
Market Value (10,00,000 x ` 24)
Synergy Gain
Saving of Overpayment
` 2,40,00,000
` 80,00,000
` 30,00,000
` 3,50,00,000
` 35
(b) Calculation of minimum price per share at which the management of XYZ Ltd.s will be
willing to offer their controlling interest
Value of XYZ Ltd.s Management Holding
(40% of 10,00,000 x ` 24)
` 96,00,000
` 30,00,000
` 1,26,00,000
No. of Shares
Minimum Price (` 1,26,00,000/4,00,000)
4,00,000
` 31.50
Question 14
Following information is given in respect of WXY Ltd., which is expected to grow at a rate of
20% p.a. for the next three years, after which the growth rate will stabilize at 8% p.a. normal
level, in perpetuity.
13.11
` 7,500 Crores
` 3,000 Crores
` 2,250 Crores
` 750 Crores
` 600 Crores
Revenues
Cost of Goods Sold (COGS)
Operating Expenses
Capital Expenditure
Depreciation (included in COGS & Operating Expenses)
During high growth period, revenues & Earnings before Interest & Tax (EBIT) will grow at 20%
p.a. and capital expenditure net of depreciation will grow at 15% p.a. From year 4 onwards,
i.e. normal growth period revenues and EBIT will grow at 8% p.a. and incremental capital
expenditure will be offset by the depreciation. During both high growth & normal growth
period, net working capital requirement will be 25% of revenues.
The Weighted Average Cost of Capital (WACC) of WXY Ltd. is 15%.
Corporate Income Tax rate will be 30%.
Required:
Estimate the value of WXY Ltd. using Free Cash Flows to Firm (FCFF) & WACC methodology.
The PVIF @ 15 % for the three years are as below:
Year
t1
t2
t3
PVIF
0.8696
0.7561
0.6575
(8 Marks) (May 2014)
Answer
Determination of forecasted Free Cash Flow of the Firm (FCFF)
(` in crores)
Revenue
COGS
Operating Expenses
Depreciation
EBIT
Tax @30%
EAT
Capital Exp. Dep.
Working Capital
Free Cash Flow (FCF)
Yr. 1
Yr. 2
Yr 3
Terminal Year
9000.00
3600.00
1980.00
720.00
2700.00
810.00
1890.00
172.50
375.00
1342.50
10800.00
4320.00
2376.00
864.00
3240.00
972.00
2268.00
198.38
450.00
1619.62
12960.00
5184.00
2851.20
1036.80
3888.00
1166.40
2721.60
228.13
540.00
1953.47
13996.80
5598.72
3079.30
1119.74
4199.04
1259.71
2939.33
259.20
2680.13
13.12
Present Value (PV) of FCFF during the explicit forecast period is:
FCFF (` in crores)
PVF @ 15%
PV (` in crores)
1342.50
0.8696
1167.44
1619.62
0.7561
1224.59
1953.47
0.6575
1284.41
3676.44
2680.13
`
20,000
4,000
2,000
2,000
600
1,400
8,000
4,000
12,000
If it adopts the new strategy, sales will grow at the rate of 20% per year for three years. The
gross margin ratio, Assets turnover ratio, the Capital structure and the income tax rate will
remain unchanged.
Depreciation would be at 10% of net fixed assets at the beginning of the year.
The Companys target rate of return is 15%.
Determine the incremental value due to adoption of the strategy.
(8 Marks) (May 2007)
13.13
Answer
Projected Balance Sheet
Fixed Assets (40%) of Sales
Current Assets (20%) of Sales
Total Assets
Equity
Year 1
Year 2
Year 3
Year 4
9,600
11,520
13,824
13,824
4,800
5,760
6,912
6,912
14,400
14,400
17,280
17,280
20,736
20,736
20,736
20,736
Year 2
Year 3
Year 4
24,000
28,800
34,560
34,560
2,400
1,680
2,880
2,016
3,456
2,419.20
3,456
2,419.20
Depreciation
Addition to Fixed Assets
800
2,400
960
2,880
1,152
3,456
1,382
1,382
800
(720)
960
(864)
1,152
(1,036.80)
2,419.20
Sales
PV at 15%
PV
-720
0.870
-626.40
-864
0.756
-653.18
-1,036.80
0.658
-682.21
-1,961.79
Residual Value
2419.20/0.15 = 16,128
=
16128/(1.15)3
16128/1.521 = 10603.55
10,603.55 1,961.79 =
Value of strategy
8,641.76 9,333.33 =
8,641.76
691.57
13.14
Question 16
Helium Ltd has evolved a new sales strategy for the next 4 years. The following information is
given:
Income Statement
` in thousands
Sales
40,000
12,000
6,000
6,000
Tax at 30%
1,800
4,200
10,000
Current Assets
6,000
Equity
15,000
As per the new strategy, sales will grow at 30 percent per year for the next four years. The
gross margin ratio will increase to 35 percent. The Assets turnover ratio and income tax rate
will remain unchanged.
Depreciation is to be at 15 percent on the value of the net fixed assets at the beginning of the year.
Company's target rate of return is 14%.
Determine if the strategy is financially viable giving detailed workings.
(10 Marks) (November 2011)
Answers
(a) Solution if candidates have assumed that if the Equity amount is 16000 instead of
15000.
13.15
(In ` Thousands)
1
2
3
4
5
13000.00 16900.00 21970.00 28561.00 28561.00
6500.00
Total Assets
15%
PAT
70%
5460.00
Depreciation
15%
1500.00
1950.00 2535.00
3295.50
4284.15
4500.00
5850.00 7605.00
9886.50
4284.15
1500.00
1950.00 2535.00
3295.50
960.00
1248.00 1622.40
2109.12 11995.62
0.877
841.92
0.769
0.675
0.592
959.71 1095.12
1248.60
(In ` Thousands)
Total for first 4 years (A)
Residual value (11995.62/0.14)
4145.35
85683
50731.21
54876.56
30000.00
24876.56
13.16
Alternative Solution
If candidates have assumed that if the Equity amount is 16000 instead of 15000.
Projected Balance Sheet
Year
Fixed Assets (25% of sales)
Current Assets (15% of sales)
Total Assets
Current Liability
1
13000.00
(In ` Thousands)
2
3
4
5
16900.00 21970.00 28561.00 28561.00
7800.00
20800.00
1300.00
19500.00
1690.00
2197.00
2856.10
2856.10
PBT
15%
17136.60
17136.60
PAT
70%
5460.00
7098.00
9227.40
11995.62
11995.62
Depreciation
15%
1500.00
1950.00
2535.00
3295.50
4284.15
4500.00
5850.00
7605.00
9886.50
4284.15
1500.00
2340.00
3042.00
3954.60
960.00
858.00
1115.40
1450.02
11995.62
0.877
0.769
0.675
0.592
0.519
841.92
659.80
752.90
858.41
6225.73
(In ` Thousands)
Total for first 4 years (A)
3113.03
44469.50
26329.51
29442.54
30000.00
-557.46
13.17
Question 17
Cauliflower Limited is contemplating acquisition of Cabbage Limited. Cauliflower Limited has 5
lakh shares having market value of ` 40 per share while Cabbage Limited has 3 lakh shares
having market value of ` 25 per share. The EPS for Cabbage Limited and Cauliflower Limited
are ` 3 per share and ` 5 per share respectively. The managements of both the companies
are discussing two alternatives for exchange of shares as follows:
(i)
(ii) Show the impact on EPS for the shareholders of the two companies under both the
alternatives.
(10 Marks)(November 2014)
Answer
(i)
EPS
Total earnings
Cauliflower Ltd.
Cabbage Ltd.
5,00,000
3,00,000
5.00
3.00
25,00,000
9,00,000
Total earnings
34,00,000
3.00
5.00
34,00,000
= ` 5.00
6,80,000
Impact on EPS
Cauliflower Ltd. shareholders
5.00
5.00
0.00
3.00
13.18
3.00
0.00
` 34,00,000
6,50,000
5.23
Impact on EPS
Cauliflower Ltd. shareholders
EPS before merger
`
5.00
5.23
Increase in EPS
0.23
`
3.000
2.615
0.385
Question 18
MK Ltd. is considering acquiring NN Ltd. The following information is available:
Company
MK Ltd.
NN Ltd.
Earning after
tax(`)
Market Value
Per Share(`)
60,00,000
18,00,000
12,00,000
3,00,000
200.00
160.00
Exchange of equity shares for acquisition is based on current market value as above. There is
no synergy advantage available.
(i)
Find the earning per share for company MK Ltd. after merger, and
(ii) Find the exchange ratio so that shareholders of NN Ltd. would not be at a loss.
(8 Marks) (November 2010) (S)
Answer
(i)
Earning per share of company MK Ltd after merger:Exchange ratio 160 : 200 = 4 : 5.
that is 4 shares of MK Ltd. for every 5 shares of NN Ltd.
13.19
= 14,40,000 Shares
Total profit after tax
= ` 60,00,000
MK Ltd.
= ` 18,00,000
NN Ltd.
= ` 78,00,000
EPS. (Earning Per Share) of MK Ltd. after merger
` 78,00,000/14,40,000 = ` 5.42 per share
(ii) To find the exchange ratio so that shareholders of NN Ltd. would not be at a Loss:
Present earning per share for company MK Ltd.
= ` 60,00,000/12,00,000 = ` 5.00
Present earning per share for company NN Ltd.
= ` 18,00,000/3,00,000 = ` 6.00
Exchange ratio should be 6 shares of MK Ltd. for every 5 shares of NN Ltd.
Shares to be issued to NN Ltd. = 3,00,000 6/5 = 3,60,000 shares
Now, total No. of shares of MK Ltd. and NN Ltd. =12,00,000 (MK Ltd.)+3,60,000 (NN Ltd.)
= 15,60,000 shares
EPS after merger = ` 78,00,000/15,60,000 = ` 5.00 per share
Total earnings available to shareholders of NN Ltd. after merger = 3,60,000 shares `
5.00 = ` 18,00,000.
This is equal to earnings prior merger for NN Ltd.
Exchange ratio on the basis of earnings per share is recommended.
Question 19
A Ltd. wants to acquire T Ltd. and has offered a swap ratio of 1:2 (0.5 shares for every one
share of T Ltd.). Following information is provided:
Profit after tax
Equity shares outstanding (Nos.)
EPS
PE Ratio
Market price per share
A Ltd.
T. Ltd.
`18,00,000
`3,60,000
6,00,000
1,80,000
`3
`2
10 times
7 times
`30
`14
13.20
Required:
(i)
Answer
(i)
(ii)
(iii)
(iv)
(` 18,00,000 + ` 3,60,000)
No. of Shares
EPS
(6,00,000 + 90,000)
`21,60,000
6,90,000
(` 21,60,000)/6,90,000)
`3.13
0.5
EPS
`3.13
`1.57
`3.13
10 times
`31.30
6,90,000
`31.30
`2,15,97,000
Question 20
ABC Ltd. is intending to acquire XYZ Ltd. by merger and the following information is available in
respect of the companies:
ABC Ltd.
XYZ Ltd.
10,00,000
6,00,000
13.21
50,00,000
18,00,000
42
28
Required:
(i)
(ii) If the proposed merger takes place, what would be the new earning per share for ABC
Ltd.? Assume that the merger takes place by exchange of equity shares and the
exchange ratio is based on the current market price.
(iii) What should be exchange ratio, if XYZ Ltd. wants to ensure the earnings to members are
as before the merger takes place?
(8 Marks) (May 2004)
Answer
(i)
(ii) Number of Shares XYZ limiteds shareholders will get in ABC Ltd. based on market value
per share = ` 28/ 42 6,00,000 = 4,00,000 shares
Total number of equity shares of ABC Ltd. after merger = 10,00,000 + 4,00,000 =
14,00,000 shares
Earnings per share after merger = ` 50,00,000 + 18,00,000/14,00,000 = ` 4.86
(iii) Calculation of exchange ratio to ensure shareholders of XYZ Ltd. to earn the same as
was before merger:
Shares to be exchanged based on EPS = (` 3/` 5) 6,00,000 = 3,60,000 shares
EPS after merger = (` 50,00,000 + 18,00,000)/13,60,000 = ` 5
Total earnings in ABC Ltd. available to shareholders of XYZ Ltd. = 3,60,000 ` 5 =
` 18,00,000.
Thus, to ensure that Earning to members are same as before, the ratio of exchange should be
0.6 share for 1 share.
Question 21
XYZ Ltd. is considering merger with ABC Ltd. XYZ Ltd.s shares are currently traded at ` 25.
it has 2,00,000 shares outstanding and its earning after taxes (EAT) amount to ` 4,00,000.
ABC Ltd. has 1,00,000 shares outstanding; its current market price is ` 12.50 and its EAT is
` 1,00,000. The merger will be effected by means of a stock swap (exchange). ABC Ltd. has
agreed to a plan under which XYZ Ltd. will offer the current market value of ABC Ltd.s shares.
13.22
What is the pre-merger earnings per share (EPS) and P/E ratios of both the companies?
(ii) If ABC Ltd.s P/E ratio is 8, what is its current market price? What is the exchange ratio?
What will XYZ Ltd.s post merger EPS be?
(iii) What must the exchange ratio be for XYZ Ltd.s pre-merger and post-merger EPS to be
the same?
(8 Marks) (May 2005)
Answer
Merger and EPS
Company
XYZ
ABC
Rs.
Rs.
25.00
12.50
2,00,000
1,00,000
4,00,000
1,00,000
(i)
EPS = `
` 1,00,000
4,00,000
,
=
2,00,000 shares 1,00,000 shares
2.00
1.00
12.5
12.5
(ii) (a) If ABC Ltd. P/E ratio is 8, its current market price will be ` 8 only (8 1).
(b) Then the exchange ratio will be 8/25 i.e. 32/100. For every 100 shares of
ABC, 32 shares of XYZ will be issued (1,00,000 32)/100 = 32,000 shares of
XYZ will be issued to all the shareholders of ABC Ltd.
(c) Post merger EPS of XYZ Ltd. = Total earning/Total shares = 5,00,000/2,32,000
equity shares = ` 2.16.
(iii) Total earnings ` 5,00,000/EPS ` 2 = 2,50,000 equity shares i.e. 50,000 shares of
XYZ will have to be issued to the shareholders of ABC i.e. one share of XYZ will be
issued for every two shares held by ABC shareholders.
Then pre-merger and post-merger EPS of XYZ will be same as follows:
Pre-merger EPS of XYZ
` 2.00
Question 22
LMN Ltd is considering merger with XYZ Ltd. LMN Ltd's shares are currently traded at
` 30.00 per share. It has 3,00,000 shares outstanding. Its earnings after taxes (EAT) amount
to ` 6,00,000. XYZ Ltd has 1,60,000 shares outstanding and its current market price is
` 15.00 per share and its earnings after taxes (EAT) amount to ` 1,60,000. The merger is
13.23
decided to be effected by means of a stock swap (exchange). XYZ Ltd has agreed to a
proposal by which LMN Ltd will offer the current market value of XYZ Ltd's shares.
Find out:
(i)
The pre-merger earnings per share (EPS) and price/earnings (P/E) ratios of both the
companies.
(ii) If XYZ Ltd's P/E Ratio is 9.6, what is its current Market Price? What is the Exchange
Ratio? What will LMN Ltd's post-merger EPS be?
(iii) What should be the exchange ratio, if LMN Ltd's pre-merger and post- merger EPS are to
be the same?
(8 Marks) (May 2012)
Answer
(i)
Pre-merger EPS and P/E ratios of LMN Ltd. and XYZ Ltd.
Particulars
Earnings after taxes
Number of shares outstanding
EPS
Market Price per share
P/E Ratio (times)
(ii)
LMN Ltd.
6,00,000
3,00,000
2
30
15
Current Market Price of XYZ Ltd. if P/E ratio is 9.6 = ` 1 9.6 = ` 9.60
Exchange ratio =
30
= 3.125
9.60
6,00,000 + 1,60,000
3,00,000 + (1,60,000/3.125)
7,60,000
= 2.16
=
3,51,200
=
(iii)
XYZ Ltd.
1,60,000
1,60,000
1
15
15
13.24
80,000
= 0.50
1,60,000
Question 23
K. Ltd. is considering acquiring N. Ltd., the following information is available :
Company
K. Ltd.
N. Ltd.
Exchange of equity shares for acquisition is based on current market value as above. There is
no synergy advantage available :
Find the earning per share for company K. Ltd. after merger.
Find the exchange ratio so that shareholders of N. Ltd. would not be at a loss.
(12 Marks) (November 2008) (S)
Answer
(i)
4
2,50,000 = 2,00,000 shares
5
= 10,00,000
K. Ltd.
+ 2,00,000
N. Ltd
12,00,000
Total profit after Tax =
50,00,000
K. Ltd.
15,00,000
N Ltd.
65,00,000
` 65,00,000
= ` 5.42 Per Share
12,00,000
(ii) To find the Exchange Ratio so that shareholders of N. Ltd. would not be at a Loss:
Present Earnings per share for company K. Ltd.
` 50,00,000
` 5.00
=
` 10,00,000
13.25
65,00,000
13,00,000
M Co. Ltd.
80,00,000
16,00,000
200
N Co. Ltd.
24,00,000
4,00,000
160
If the merger goes through by exchange of equity and the exchange ratio is based on the
current market price, what is the new earning per share for M Co. Ltd.?
(ii) N Co. Ltd. wants to be sure that the earnings available to its shareholders will not be
diminished by the merger. What should be the exchange ratio in that case?
(8 Marks) (November 2003)
Answer
(i)
13.26
` 1,04,00,000
= ` 5.42
19,20,000 equity shares
(ii) Calculation of exchange ratio which would not diminish the EPS of N Co. Ltd. after
its merger with M Co. Ltd.
Current EPS:
M Co. Ltd. =
` 80,00,000
=`5
16,00,000 equity shares
N Co. Ltd. =
` 24,00,000
=`6
4,00,000 equity shares
Firm
Mark Limited
Firm
Mask Limited
2,000 lakhs
400 lakhs
200 lakhs
100 lakhs
10
13.27
Required:
(i)
(i)
Particulars
Mark Ltd.
Mask Ltd.
EPS
Market Price
` 10 10 = ` 100
` 4 5 = ` 20
` 240.02 crores
` 220.00 crores
` 20.02 crores
13.28
Mask Ltd.
218.20 crores
21.82 crores
200.00 crores
18.20 crores
20.00 crores
Gain to Shareholders
1.82 crores
Question 26
Simple Ltd. and Dimple Ltd. are planning to merge. The total value of the companies are
dependent on the fluctuating business conditions. The following information is given for the
total value (debt + equity) structure of each of the two companies.
Business Condition
Probability
High Growth
Medium Growth
0.20
0.60
820
550
1050
825
Slow Growth
0.20
410
590
The current debt of Dimple Ltd. is ` 65 lacs and of Simple Ltd. is ` 460 lacs.
Calculate the expected value of debt and equity separately for the merged entity.
(8 Marks) (May 2011)
Answer
Compute Value of Equity
Simple Ltd.
High Growth
Medium Growth
` in Lacs
Slow Growth
Debit + Equity
820
550
410
Less: Debt
460
460
460
Equity
360
90
-50
Since the Company has limited liability the value of equity cannot be negative therefore the value
of equity under slow growth will be taken as zero because of insolvency risk and the value of debt
is taken at 410 lacs. The expected value of debt and equity can then be calculated as:
Simple Ltd.
` in Lacs
High Growth
Debt
Medium Growth
Slow Growth
Prob.
Value
Prob.
Value
Prob.
Value
0.20
460
0.60
460
0.20
410
Expected Value
450
13.29
Equity
0.20
360
0.60
90
0.20
550
820
126
410
576
Dimple Ltd.
` in Lacs
High Growth
Medium Growth
Slow Growth
Expected Value
Prob.
Value
Prob.
Value
Prob.
Value
Equity
0.20
985
0.60
760
0.20
525
758
Debt
0.20
65
0.60
65
0.20
65
65
590
823
1050
825
Expected Values
` in Lacs
Equity
Simple Ltd.
Dimple Ltd.
126
Debt
Simple Ltd.
450
758
Dimple Ltd.
65
515
884
Question 27
Longitude Limited is in the process of acquiring Latitude Limited on a share exchange basis.
Following relevant data are available:
Profit after Tax (PAT)
` in Lakhs
Number of Shares
Lakhs
16
15
10
(Ignore Synergy)
You are required to determine:
(i)
(ii) The maximum exchange ratio Longitude Limited can offer without the dilution of
(1) EPS and
(2) Market Value per Share
13.30
Calculate Ratio/s up to four decimal points and amounts and number of shares up to two
decimal points.
(8 Marks) (May 2013)
Answer
(i)
` 8 X 15 = ` 120.00
Latitude Ltd.
` 5 X 10 = ` 50.00
` 140 Lakhs
` 60 Lakhs
Combined PAT
` 200 Lakhs
`8
25 Lakhs
15 Lakhs
10 Lakhs
Capitalization
of
Latitude
Ltd.
` 1800 Lakhs
` 800 Lakhs
` 2600 Lakhs
` 120
21.67 Lakhs
15.00 Lakhs
6.67 Lakhs
13.31
` 120 Lakhs
` 80 Lakhs
Combined PAT
` 200 Lakhs
`8
25 Lakhs
15 Lakhs
10 Lakhs
Capitalization
of
Capitalization
Longitude
Ltd.
` 1800 Lakhs
Latitude
Ltd.
` 800 Lakhs
of
` 2600 Lakhs
of Longitude
` 120
21.67 Lakhs
15.00 Lakhs
6.67 Lakhs
Mani Ltd.
2,000
200
10
Ratnam Ltd.
4,000
1,000
5
13.32
` 10
` 4
` 100
` 20
0.20
`15.00
`15.00
9
`135.00
` 540.00 Crores
or ` 54,000 Lakhs
` Crore
Mani Ltd.
Ratnam Ltd.
200
200
270
70
270
70
200
1,000
35
P Ltd. is considering take-over of R Ltd. by the exchange of four new shares in P Ltd. for every
five shares in R Ltd. The relevant financial details of the two companies prior to merger
13.33
R Ltd
15
13.50
25
15
P/E Ratio
12
R Ltd.
13.50
(` in crore)
4.50
4.05
10.50
9.45
10.50
= ` 0.42
25
9.45
= ` 0.63
15
` 0.42 x 12 = ` 5.04
0.63 x ` 9 = ` 5.67
25 crores
R Ltd.
4
5
15x = 12 crores
13.34
37 crores
25
x100 67.57%
37
12
x100 = 32.43%
37
R Ltd.
` 211.05 crore x 32.43%
= ` 142.61
= ` 68.44
4
= ` 5.18
5
13.35
borrowed `100 lacs on which interest is paid at 10% p.a. The Company shares are unquoted
and it has decided to take your advice in regard to the calculation of value of the Company
that could be used in negotiations using the following available information and forecast.
Companys forecast turnover for the year to 31st March, 2005 is `2,000 lacs which is mainly
dependent on the ability of the Company to obtain the new contract, the chance for which is
60%, turnover for the following year is dependent to some extent on the outcome of the year
to 31st March, 2005. Following are the estimated turnovers and probabilities:
Year - 2005
Turnover
Year - 2006
Prob.
Turnover
` (in lacs)
Prob.
`(in lacs)
2,000
0.6
1,500
1,200
2,500
0.7
3,000
0.3
0.3
2,000
0.5
0.1
1,800
1,500
0.5
0.6
1,200
0.4
Operating costs inclusive of depreciation are expected to be 40% and 35% of turnover
respectively for the years 31st March, 2005 and 2006. Tax is to be paid at 30%. It is assumed
that profits after interest and taxes are free cash flows. Growth in earnings is expected to be
405 for the years 2007, 2008 and 2009 which will fall to 105 each year after that. Industry
average cost of equity (net of tax) is 15%.
(10 Marks) (November 2007)
Answer
Estimation of earnings for the years ended 31st March, 2005 & 2006
Prob.
(` In lacs)
Turnover Expected
Turnover
2500
1050
3000
540
Prob.
Turnover
0.6
2000
Expected
Turnover
1200
0.3
1500
450
0.3 0.5
0.3 0.5
2000
1800
300
270
0.1
1200
120
0.1 0.6
1500
90
0.1 0.4
1200
48
0.6 0.7
0.6 x 0.3
1770
Operating Costs (40%)
(708)
2298
(35%)
(804)
13.36
(10)
(10)
1052
1484
Tax
316
445
Earnings/Cash flows
736
1039
2008 -
2009 -
Cash flows
PV
2005
736
0.870
640
2006
1039
0.756
785
2007
2008
1455
2037
0.658
0.572
957
1165
2009
2852
0.497
1417
4964
Po = D1/(Ke G)
= 1559/0.15- 0.10 = 31180/Present value of all future estimated cash flows:2005 - 2009
4964
2009 onwards
31180
36144
Company valuation is 36144/Note: Few printing errors have crept in this question viz 40% growth in earnings has
appeared as 405 likewise 10% growth in earnings has been wrongly printed as 105. The
answer provided above pertains to 40% and 10% growth.
Question 31
Yes Ltd. wants to acquire No Ltd. and the cash flows of Yes Ltd. and the merged entity are
given below:
13.37
Year
Yes Ltd.
Merged Entity
1
175
400
2
200
450
3
320
525
4
340
590
(` In lakhs)
5
350
620
Earnings would have witnessed 5% constant growth rate without merger and 6% with merger
on account of economies of operations after 5 years in each case. The cost of capital is 15%.
The number of shares outstanding in both the companies before the merger is the same and
the companies agree to an exchange ratio of 0.5 shares of Yes Ltd. for each share of No Ltd.
PV factor at 15% for years 1-5 are 0.870, 0.756; 0.658, 0.572, 0.497 respectively.
You are required to:
(i) Compute the Value of Yes Ltd. before and after merger.
(ii) Value of Acquisition and
(iii) Gain to shareholders of Yes Ltd.
Answer
(i)
Working Notes:
Present Value of Cash Flows (CF) upto 5 years
Year
End
CF of Yes Ltd.
(` lakhs)
PVF
@15%
PV of CF
(` lakhs)
1
2
3
4
5
175
200
320
340
350
0.870
0.756
0.658
0.572
0.497
152.25
151.20
210.56
194.48
173.95
882.44
CF of Merged PV of CF of
Entity
Merged Entity
(` lakhs)
(` lakhs)
400
348.00
450
340.20
525
345.45
590
337.48
620
308.14
1679.27
13.38
1
= `3538.98 lakhs
1.5
Gain to shareholder = Share of Yes Ltd. in merged entity Value of Yes Ltd. before
merger
= `3538.98 lakhs - `2708.915 = `830.065 lakhs
Question 32
AB Ltd. has recently approached the shareholders of CD Ltd. which is engaged in the same
line of business as that of AB Ltd. with a bid of 4 new shares in AB Ltd. for every 5 CD Ltd.
shares or a cash alternative of `360 per share. Past records of earnings of CD Ltd. had been
poor and the companys shares have been out of favour with the stock market for some time.
Pre bid information for the year ended 31.3.2006 are as follows:
Equity share capital
Number of shares
Pre-tax profit
P/E Ratio
Estimated post tax cost of Equity Capital per Annum
Both AB Ltd. and CD Ltd. pay income tax at 30%. Current earnings growth forecast is 4% for
the foreseeable future of both the Companies.
Assuming no synergy exists, you are required to evaluate whether proposed share to share
offer is likely to be beneficial to the shareholders of both the companies using merger terms
available. AB Ltd.s directors might expect their own pre bid P/E ratio to be applied to
combined earnings.
Also comment on the value of the two Companies from the constant growth form of dividend
valuation model assuming all earnings are paid out as dividends.(14 Marks) (November 2007)
13.39
Answer
Alternative 1 (when number of shares are 2.4 and 1.7 lakhs respectively)
Evaluation:Background calculations:(Figures in lakhs)
AB Ltd. CD Ltd.
Total
PBT
125
110
235
PAT
87.5
77
164.5
36.46
45.29
11
401.06
317.03
962.54
538.95
1,501.49
2.4
1.36
3.76
63.83%
36.17%
958.40
543.09
399.33
319.46
1,501.49
(Note: The Post bid Price per share to new shareholders as per terms of acquisition works
out to `399.33 for both the companies)
These figures suggest post bid acquisition share price of `399.33 for AB Ltd., and 319.46 for
CD Ltd.s. Original shareholders. The price of CD Ltd share is likely to be influenced by the
value of cash alternative.
The post bid share price of the new firm can be estimated by applying the P/E ratio to the
combined earnings of the two old companies.
In that case,
Market Value would be = 164.5 11 = 1809.50
Price per share of the combined company would be =
1,809.50
` 481.25
3.76
Therefore share of AB Ltd., shareholders would raise by `481.25 `401.06= `80.19 i.e.,
20%.
Share value of CD Ltd., shareholder expected to rise by
4
13.40
360 317.03
13.55% only
317.03
Hence shareholders of CD Ltd are gaining more from the merger in a share exchange and cash
alternative is unlikely to be accepted.
Using constant growth model the value of both the individual companies would be:
AB Ltd., share price =
36.46(1.04)
` 473.98
0.12 0.04
45.29 1.04
` 785.03
0.10 0.04
On this basis market slightly undervalues AB Ltd share but share of CD Ltd., are highly
undervalued possibly because of previous disappointments. However, if AB Ltd. forecast is
believed that the AB Ltd., is getting CD Ltd. shares, it will be a cheap proposal for AB Ltd. to
acquire the CD Ltd. on share exchange basis and especially if any of the shareholder of CD
Ltd. Accept the cash offer.
The shareholders of CD Ltd. would also be benefited post merger based on share exchange
ratio since the value of their share would be going up from `317.03 to `399.33. However,
their share price would still be undervalued as compared with the share price calculated by
using constant growth model.
Alternative 2 (when number of shares are 24 and 17 lakhs respectively)
If we take into consideration the number of shares being 24 lakhs and 17 lakhs the Pre-bid
share price works out to `40.15 and `31.71 respectively, which seems to be illogical against a
cash offer @ `360/- per share. However, since many students may have solved this question
based on the figures of 24 lakhs and 17 lakhs number of shares, an alternative solution is
provided below.
Evaluation:
Background calculations:
Figures in lakhs
AB Ltd.
CD Ltd.
Total
PBT
125
110
235
PAT
Pre bid EPS
87.5
3.65
77
4.53
164.5
11
40.15
31.71
963.60
24
539.07
1502.67
13.6
37.6
63.83
36.17
P/E Ratio
Pre-bid Price per share
Market value of the company
No. of new shares Post-bid
% of combined company owned by
13.41
959.15
543.52
39.96
31.97
1502.67
(Note: The Post bid price per share works out to `39.96 for both the companies)
These figures suggest Post acquisition share price of `39.96 for AB Ltd and `31.97 for CD
Ltds original shareholders. The Price of CD Ltd. Share is likely to be influenced by the value
of cash alternative.
The Post bid share price of the new firm can be estimated by applying the P/E ratio to the
combined earnings of the two old companies.
In that case,
Market-value would be = 164.5 11 = 1809.50
Price per share of the combined company
Would be =
1809.50
48.13
37.6
Shares of AB Ltd. shareholders would raise by `48.13 40.15 = 7.98 i.e., 19.87% or 20%.
4
= `7.40 or 23.34%.
360 31.71
1035.29%
31.71
Hence, the shareholders of CD Ltd., are substantially benefited by cash offer and they are
unlikely to accept the share swap ratio.
Using constant growth model the value of shares of both the individual companies would be
AB Ltd. Share Price =
3.65(1.04) 3.80
= `47.5
=
0.12- 0.04 0.08
On this basis market slightly undervalues AB Ltd. Share but share of CD Ltd., is highly
undervalued possibly because of previous disappointments. However, if AB Ltd. forecast is
believed that the AB Ltd. is getting CD Ltd. share it will be a cheap proposal for AB Ltd., to
acquire CD Ltd., on share exchange basis.
The shareholders of CD Ltd., would however be more benefited by cash offer.
13.42
Question 33
The following information is provided relating to the acquiring company Efficient Ltd. and the
target Company Healthy Ltd.
No. of shares (F.V. ` 10 each)
Market capitalization
P/E ratio (times)
Reserves and Surplus
Promoters Holding (No. of shares)
Efficient Ltd.
10.00 lakhs
500.00 lakhs
10.00
300.00 lakhs
4.75 lakhs
Healthy Ltd.
7.5 lakhs
750.00 lakhs
5.00
165.00 lakhs
5.00 lakhs
Board of Directors of both the Companies have decided to give a fair deal to the shareholders
and accordingly for swap ratio the weights are decided as 40%, 25% and 35% respectively for
Earning, Book Value and Market Price of share of each company:
(i)
Calculate the swap ratio and also calculate Promoters holding % after acquisition.
(ii) What is the EPS of Efficient Ltd. after acquisition of Healthy Ltd.?
(iii) What is the expected market price per share and market capitalization of Efficient Ltd.
after acquisition, assuming P/E ratio of Firm Efficient Ltd. remains unchanged.
(iv) Calculate free float market capitalization of the merged firm.
Answer
Swap Ratio
Market capitalisation
No. of shares
Market Price per share
Efficient Ltd.
Healthy Ltd.
500 lakhs
750 lakhs
10 lakhs
7.5 lakhs
` 50
P/E ratio
10
` 100
5
EPS
`5
` 20
` 50 lakh
` 150 lakh
Share capital
` 100 lakh
` 75 lakh
` 300 lakh
` 165 lakh
Total
` 400 lakh
` 240 lakh
` 40
` 32
Profit
1 : 4 i.e.
4.0 40%
1.6
13.43
1 : 0.8 i.e.
1 : 2 i.e.
0.8 25%
2.0 35%
Total
0.2
0.7
2.5
Swap ratio is for every one share of Healthy Ltd., to issue 2.5 shares of Efficient Ltd.
Hence, total no. of shares to be issued 7.5 lakh 2.5 = 18.75 lakh shares
Promoters holding = 4.75 lakh shares + (5 2.5 = 12.5 lakh shares) = 17.25 lakh i.e.
Promoters holding % is (17.25 lakh/28.75 lakh) 100 = 60%.
Calculation of EPS, Market price, Market capitalization and free float market
capitalization.
(ii) Total No. of shares
Total capital
EPS
No. of shares
28.75 lakh
28.75
= ` 6.956
(iii) Expected market price
Market capitalization
Question 34
Abhiman Ltd. is a subsidiary of Janam Ltd. and is acquiring Swabhiman Ltd. which is also a
subsidiary of Janam Ltd.
The following information is given:
% Shareholding of promoter
Share capital
Free Reserves and surplus
Paid up value per share
Free float market capitalization
P/E Ratio (times)
Abhiman Ltd.
Swabhiman Ltd.
50%
60%
` 200 lacs
` 900 lacs
` 100
` 500 lacs
100 lacs
10
600 lacs
10
156 lacs
4
Janam Ltd., is interested in doing justice to both companies. The following parameters have been
assigned by the Board of Janam Ltd., for determining the swap ratio:
25%
50%
Market price
25%
13.44
(ii) The Book Value, Earning Per Share and Expected Market Price of Swabhiman Ltd.,
(assuming P/E Ratio of Abhiman ratio remains the same and all assets and liabilities of
Swabhiman Ltd. are taken over at book value.)
(8 Marks) (May 2011)
Answer
SWAP RATIO
Abhiman Ltd.
(`)
200 lacs
Swabhiman Ltd.
(`)
100 lacs
900 lacs
600 lacs
1100 lacs
700 lacs
No. of shares
2 lacs
10 lacs
` 550
50%
` 70
60%
50%
500 lacs
40%
Share capital
Free reserves & surplus
Total
Promoters Holding
Non promoters holding
Free float market capitalization (Public)
Total Market Cap
No. of shares
Market Price
P/E ratio
EPS
1000 lacs
` 156 lacs
390 lacs
2 lacs
10 lacs
` 500
` 39
10
` 50.00
` 9.75
1:0.1273
1:0.195
0.1273 25%
0.195 50%
0.031825
0.097500
Market Price
1:0.078
0.078 25%
0.019500
Total
(i)
0.148825
SWAP Ratio is 0.148825 shares of Abhiman Ltd. for every share of Swabhiman Ltd.
Total No. of shares to be issued = 10 lakh 0.148825 = 148825 shares
13.45
Total Pr ofit
` 100 lac ` 97.50 lac
=
= ` 56.62
No. of shares
3.48825 lac
Abhiman Ltd.
200 lakh
Abhishek Ltd.
100 lakh
800 lakh
500 lakh
100
10
400 lakh
128 lakh
10
Trident Ltd. is interested to do justice to the shareholders of both the Companies. For the
swap ratio weights are assigned to different parameters by the Board of Directors as follows:
Book Value
EPS (Earning per share)
Market Price
25%
50%
25%
13.46
(iii) Also calculate No. of Shares, Earning per Share (EPS) and Book Value (B.V.), if
after acquisition of Abhishek Ltd., Abhiman Ltd. decided to :
(a) Issue Bonus shares in the ratio of 1 : 2; and
(b) Split the stock (share) as ` 5 each fully paid.
Answer
(a) Swap Ratio
Abhiman Ltd.
Abhishek Ltd.
Share Capital
Free Reserves
200 Lakh
800 Lakh
100 Lakh
500 Lakh
Total
No. of Shares
1000 Lakh
2 Lakh
600 Lakh
10 Lakh
` 500
50%
` 60
60%
50%
400 Lakh
40%
128 Lakh
800 Lakh
320 Lakh
2 Lakh
10 Lakh
` 400
` 32
4
EPS
10
40
Profits (` 2 X 40)
80
80
No. of Shares
Market Price
P/E Ratio
(` 8 X 10)
1 : 0.12 i.e.
0.12 x 25%
0.03
EPS
Market Price
1 : 0.2
1 : 0.08
0.20 x 50%
0.08 x 25%
0.10
0.02
0.15
Total
Swap ratio is for every one share of Abhishek Ltd., to issue 0.15 shares of Abhiman Ltd.
Hence total no. of shares to be issued
10 Lakh x 0.15 = 1.50 lakh shares
13.47
Total Capital
Reserves
Book Value
EPS
= ` 45.71
Expected Market Price
Holding
Total
Capitalisation
= ` 731.36 Lakh
Book Value
Question 36
You have been provided the following Financial data of two companies:
Krishna
Ltd.
Rama
Ltd.
` 7,00,000
` 10,00,000
13.48
` 2,00,000
` 4,00,000
3.5
2.5
10 times
14 times
Exchange Ratio
1:1
2,00,000
6,00,000
(iii)
` 17,00,000
` 2.83
` 2.50
` 0.33
` 3.50
` 0.67
14 times
` 39.62
6,00,000
` 2,37,72,000
` 2,10,00,000
Total gain
27,72,000
(iv)
No. of shares after merger
Rama Ltd.
Krishna Ltd
Total
4,00,000
2,00,000
6,00,000
13.49
Market price
` 39.62
` 39.62
` 39.62
` 1,58,48,000
` 79,24,000
` 2,37,72,000
` 1,40,00,000
` 70,00,000
` 2,10,00,000
18,48,000
` 9,24,000
27,72,000
E Ltd.
12 Lakhs
6 Lakhs
580
--
--
240
400.86
115.71
Market Price/share (` )
220.00
110.00
T Ltd. plans to offer a price for E Ltd., business as a whole which will be 7 times EBIDAT
reduced by outstanding debt, to be discharged by own shares at market price.
E Ltd. is planning to seek one share in T Ltd. for every 2 shares in E Ltd. based on the market
price. Tax rate for the two companies may be assumed as 30%.
Calculate and show the following under both alternatives - T Ltd.'s offer and E Ltd.'s plan:
(i)
13.50
Answer
As per T Ltd.s Offer
` in lakhs
(i)
809.97
Less: Debt
240.00
569.97
2,59,000
516.57
88.00
428.57
128.57
300.00
14.59 lakh
` 20.56
` in lakhs
Pre-acquisition P/E multiple:
EBIDAT
400.86
10
)
100
58.00
342.86
102.86
240.00
220
20
12.00
` 20.00
11
` 226.16
13.51
` in lakhs
(i)
3 lakh
300.00
15 lakh
` 20.00
220.00
Since the two companies are in the same industry, the following advantages could
accrue:
- Synergy, cost reduction and operating efficiency.
- Better market share.
- Avoidance of competition.
Question 38
The following information is relating to Fortune India Ltd. having two division, viz. Pharma
Division and Fast Moving Consumer Goods Division (FMCG Division). Paid up share capital of
Fortune India Ltd. is consisting of 3,000 Lakhs equity shares of Re. 1 each. Fortune India Ltd.
decided to de-merge Pharma Division as Fortune Pharma Ltd. w.e.f. 1.4.2009. Details of
Fortune India Ltd. as on 31.3.2009 and of Fortune Pharma Ltd. as on 1.4.2009 are given
below:
Particulars
400 lakh
3,000 lakh
Unsecured Loans
2,400 lakh
800 lakh
1,300 lakh
21,200 lakh
7,740 lakh
7,600 lakh
20,400 lakh
12,300 lakh
Outside Liabilities
Secured Loans
Assets
Fixed Assets
Investments
Current Assets
Loans & Advances
Deferred tax/Misc. Expenses
13.52
8,800 lakh
30,200 lakh
900 lakh
60 lakh
7,300 lakh
(200) lakh
Board of Directors of the Company have decided to issue necessary equity shares of Fortune
Pharma Ltd. of Re. 1 each, without any consideration to the shareholders of Fortune India Ltd.
For that purpose following points are to be considered:
1.
2.
Answer
Share holders funds
(` Lakhs)
Assets
70,000
25,100
44,900
Outside liabilities
25,000
4,100
20,900
Net worth
45,000
21,000
24,000
Particulars
1.
Hence, Ratio is 1 share of Fortune Pharma Ltd. for 2 shares of Fortune India Ltd.
13.53
2.
21,000
24,000
1,500
3,000
` 14
`8
Question 39
H Ltd. agrees to buy over the business of B Ltd. effective 1st April, 2012.The summarized
Balance Sheets of H Ltd. and B Ltd. as on 31st March 2012 are as follows:
Balance sheet as at 31st March, 2012 (In Crores of Rupees)
Liabilities:
H. Ltd
B. Ltd.
350.00
6.50
950.00
25.00
1,300.00
31.50
220.00
0.50
1,020.00
60.00
29.00
2.00
1,300.00
31.50
H Ltd. proposes to buy out B Ltd. and the following information is provided to you as part of
the scheme of buying:
(1) The weighted average post tax maintainable profits of H Ltd. and B Ltd. for the last 4
years are ` 300 crores and ` 10 crores respectively.
(2) Both the companies envisage a capitalization rate of 8%.
13.54
(3) H Ltd. has a contingent liability of ` 300 crores as on 31st March, 2012.
(4) H Ltd. to issue shares of `100 each to the shareholders of B Ltd. in terms of the
exchange ratio as arrived on a Fair Value basis. (Please consider weights of 1 and 3 for
the value of shares arrived on Net Asset basis and Earnings capitalization method
respectively for both H Ltd. and B Ltd.)
You are required to arrive at the value of the shares of both H Ltd. and B Ltd. under:
(i) Net Asset Value Method
(ii) Earnings Capitalisation Method
(iii) Exchange ratio of shares of H Ltd. to be issued to the shareholders of B Ltd. on a Fair
value basis (taking into consideration the assumption mentioned in point 4 above.)
(12 Marks) (November 2012)
Answer
(i)
B Ltd.
` 31.50 Crores
= ` 48.46
0.65 Crores
B Ltd.
` 10 Crores / 0.08
= ` 192.31
0.65 Crores
` 285.71 1 ` 1071.43 3
= ` 875
4
` 48.46 1 ` 192.31 3
= ` 156.3475
4
Exchange ratio
13.55
Question 40
Reliable Industries Ltd. (RIL) is considering a takeover of Sunflower Industries Ltd. (SIL). The
particulars of 2 companies are given below:
`20,00,000
`10,00,000
10,00,000
10,00,000
10
Particulars
PE Ratio (Times)
Required:
(i)
(ii)
Assume that the management of RIL estimates that the shareholders of SIL will accept
an offer of one share of RIL for four shares of SIL. If there are no synergic effects, what
is the market value of the Post-merger RIL? What is the new price per share? Are the
shareholders of RIL better or worse off than they were before the merger?
(iii)
Due to synergic effects, the management of RIL estimates that the earnings will
increase by 20%. What are the new post-merger EPS and Price per share? Will the
shareholders be better off or worse off than before the merger? (8 Marks) (May 2006)
Answer
(i)
RIL
`2
10
` 20
10,00,000
2,00,00,000
`
Post merger earnings
Exchange Ratio (1:4)
30,00,000
12,50,000
PE Ratio
Market Value 10 x 2.4
2.4
10
24
SIL
Re.1
5
`5
10,00,000
50,00,000
3,00,00,000
`
3,00,00,000
13.56
2,00,00,000
50,00,000
2,50,00,000
50,00,000
SIL(`)
2,40,00,000
--
2,50,000 x 24
Less: Pre-Merger Market Value
2,00,00,000
60,00,000
50,00,000
40,00,000
10,00,000
Particulars
Thus, the shareholders of both the companies (RIL + SIL) are better off than before
(iii) Post-Merger Earnings:
Increase in Earnings by 20%
New Earnings: `30,00,000 x (1+0.20)
`36,00,000
12,50,000
EPS (` 36,00,000/12,50,000)
`2.88
PE Ratio
10
Question 41
AFC Ltd. wishes to acquire BCD Ltd. The shares issued by the two companies are 10,00,000
and 5,00,000 respectively:
(i)
Calculate the increase in the total value of BCD Ltd. resulting from the acquisition on the
basis of the following conditions:
Current expected growth rate of BCD Ltd.
7%
Expected growth rate under control of AFC Ltd., (without any additional
8%
13.57
`
`
100
Re.
0.60
20
(ii) On the basis of aforesaid conditions calculate the gain or loss to shareholders of both the
companies, if AFC Ltd. were to offer one of its shares for every four shares of BCD Ltd.
(iii) Calculate the gain to the shareholders of both the Companies, if AFC Ltd. pays `22 for
each share of BCD Ltd., assuming the P/E Ratio of AFC Ltd. does not change after the
merger. EPS of AFC Ltd. is `8 and that of BCD is `2.50. It is assumed that AFC Ltd.
invests its cash to earn 10%.
(8 Marks) (May 2007)
Answer
(i)
13.58
`12,50,000/-
`11,00,000/` 1,50,000/10,00,000
Number of shares
Net increase in earning per share
P/E ratio of AFC Ltd. = 100/8 = 12.50
0.15
Question 42
AB Ltd., is planning to acquire and absorb the running business of XY Ltd. The valuation is to
be based on the recommendation of merchant bankers and the consideration is to be
discharged in the form of equity shares to be issued by AB Ltd. As on 31.3.2006, the paid up
capital of AB Ltd. consists of 80 lakhs shares of `10 each. The highest and the lowest market
quotation during the last 6 months were `570 and `430. For the purpose of the exchange, the
price per share is to be reckoned as the average of the highest and lowest market price during
the last 6 months ended on 31.3.06.
XY Ltd.s Balance Sheet as at 31.3.2006 is summarised below:
` lakhs
Sources
Share Capital
20 lakhs equity shares of `10 each fully paid
200
50
100
350
Loans
Total
Uses
Fixed Assets (Net)
150
200
350
An independent firm of merchant bankers engaged for the negotiation, have produced the
following estimates of cash flows from the business of XY Ltd.:
13.59
Year ended
By way of
31.3.07
105
31.3.08
do
120
31.3.09
Do
125
31.3.10
Do
120
31.3.11
Do
100
200
` lakhs
It is the recommendation of the merchant banker that the business of XY Ltd. may be valued
on the basis of the average of (i) Aggregate of discounted cash flows at 8% and (ii) Net assets
value. Present value factors at 8% for years
1-5:
0.93
You are required to:
(i)
0.86
0.79
0.74
0.68
500
` lakhs
592.40
` lakhs
250.00
(`570 + `430)/2
421.20
Nos.
84240
2500000
67392
16848
Question 43
BA Ltd. and DA Ltd. both the companies operate in the same industry. The Financial
statements of both the companies for the current financial year are as follows:
13.60
Balance Sheet
Particulars
BA Ltd.
(` )
DA Ltd.
(` )
Current Assets
14,00,000
10,00,000
10,00,000
24,00,000
5,00,000
15,00,000
10,00,000
8,00,000
2,00,000
5,00,000
-3,00,00
7,00,000
24,00,000
4,00,000
15,00,000
BA Ltd.
(` )
DA Ltd.
(` )
Net Sales
Cost of Goods sold
34,50,000
27,60,000
17,00,000
13,60,000
Gross profit
Operating expenses
6,90,000
2,00,000
3,40,000
1,00,000
Interest
Earnings before taxes
70,000
4,20,000
42,000
1,98,00
Taxes @ 50%
2,10,000
99,000
2,10,000
99,000
1,00,000
80,000
40%
60%
`40
`15
Total (`)
Equity capital (`10 each)
Retained earnings
14% long-term debt
Current liabilities
Total (`)
Income Statement
Assume that both companies are in the process of negotiating a merger through an exchange
of equity shares. You have been asked to assist in establishing equitable exchange terms and
are required to:
(i)
Decompose the share price of both the companies into EPS and P/E components; and
also segregate their EPS figures into Return on Equity (ROE) and book value/intrinsic
value per share components.
13.61
(iii) Based on expected operating synergies BA Ltd. estimates that the intrinsic value of DAs
equity share would be `20 per share on its acquisition. You are required to develop a
range of justifiable equity share exchange ratios that can be offered by BA Ltd. to the
shareholders of DA Ltd. Based on your analysis in part (i) and (ii), would you expect the
negotiated terms to be closer to the upper, or the lower exchange ratio limits and why?
(iv) Calculate the post-merger EPS based on an exchange ratio of 0.4: 1 being offered by BA
Ltd. and indicate the immediate EPS accretion or dilution, if any, that will occur for each
group of shareholders.
(v) Based on a 0.4: 1 exchange ratio and assuming that BA Ltd.s pre-merger P/E ratio will
continue after the merger, estimate the post-merger market price. Also show the resulting
accretion or dilution in pre-merger market prices.
(12 Marks) (November 2008) (M)
Answer
Market price per share (MPS) = EPS X P/E ratio or P/E ratio = MPS/EPS
(i)
Determination of EPS, P/E ratio, ROE and BVPS of BA Ltd. and DA Ltd.
Earnings After Tax
(EAT)
No. of Shares
(N)
EPS
(EAT/N)
(MPS)
P/E Ratio
Equity Funds
(MPS/EPS)
(EF)
BVPS
(EF/N)
(EAT/EF) 100
ROE
BA Ltd.
DA Ltd.
` 2,10,000
100000
` 99,000
80000
` 2.10
40
` 1.2375
19.05
12.12
` 12,00,000
` 8,00,000
12
17.50%
10
15
12.37%
(1-D/P ratio)
Growth Rate
0.6
0.4
10.50%
4.95%
= `20 / `40
(b)
Market price based
= MPSDA/MPSBA = `15 / `40 = 0.375:1 (lower limit)
Since, BA Ltd. has a higher EPS, ROE, P/E ratio and even higher EPS growth
expectations, the negotiable terms would be expected to be closer to the lower limit,
based on the existing share prices.
13.62
BA Ltd.
(`)
Share outstanding
EPS
(`)
(`)
DA Ltd. Combined
(i)
2,10,000
99,000
3,09,000
(ii)
100000
80000
132000*
2.1
1.2375
2.341
(i) / (ii)
0.241 (0.301***)
(`)
(i)
P/E Ratio
MPS
(`)
(ii)
(i) / (ii)
MPS Accretion
(`)
BA Ltd.
DA Ltd.
Combined
2.1
1.2375
2.341
19.05
40
12.12
15
19.05
44.6
4.6
2.84***
= `2.34 0.4
EPS dilution
= `1.2375 ` 0.936
(` 44.60 0.4)
` 0.936
` 0.3015
` 17.84
` 15.00
` 2.84
Question 44
A valuation done of an established company by a well-known analyst has estimated a value of
` 500 lakhs, based on the expected free cash flow for next year of ` 20 lakhs and an
expected growth rate of 5%.
While going through the valuation procedure, you found that the analyst has made the mistake
of using the book values of debt and equity in his calculation. While you do not know the book
value weights he used, you have been provided with the following information:
(i)
13.63
Answer
Cost of capital by applying Free Cash Flow to Firm (FCFF) Model is as follows:Value of Firm = V0 =
FCFF1
K c gn
Where
FCFF1 = Expected FCFF in the year 1
Kc = Cost of capital
gn = Growth rate forever
Thus, ` 500 lakhs = ` 20 lakhs /(Kc-g)
Since g = 5%, then Kc = 9%
Now, let X be the weight of debt and given cost of equity = 12% and cost of debt = 6%,
then 12% (1 X) + 6% X = 9%
Hence, X = 0.50, so book value weight for debt was 50%
Correct weight should be 75% of equity and 25% of debt.
Cost of capital = Kc = 12% (0.75) + 6% (0.25) = 10.50%
and correct firms value = ` 20 lakhs/(0.105 0.05) = ` 363.64 lakhs.
Question 45
The valuation of Hansel Limited has been done by an investment analyst. Based on an
expected free cash flow of ` 54 lakhs for the following year and an expected growth rate of 9
percent, the analyst has estimated the value of Hansel Limited to be ` 1800 lakhs. However,
he committed a mistake of using the book values of debt and equity.
The book value weights employed by the analyst are not known, but you know that Hansel
Limited has a cost of equity of 20 percent and post tax cost of debt of 10 percent. The value of
equity is thrice its book value, whereas the market value of its debt is nine-tenths of its book
value. What is the correct value of Hansel Ltd?
(6 Marks) (November 2014)
Answer
Cost of capital by applying Free Cash Flow to Firm (FCFF) Model is as follows:Value of Firm = V0 =
FCFF1
K c gn
Where
FCFF1 = Expected FCFF in the year 1
Kc = Cost of capital
13.64
- ` 2,000 crores
EBIT
- ` 300 crores
Capital expenditure
- ` 280 crores
Depreciation
- `200 crores
Information for high growth and stable growth period are as follows:
Growth in Revenue & EBIT
High Growth
Stable Growth
20%
10%
Capital expenditure
offset by depreciation
9%
Equity beta
1.15
6%
5%
13%
12.86%
1:1
2:3
are
For all time, working capital is 25% of revenue and corporate tax rate is 30%.
What is the value of the firm?
13.65
Answer
High growth phase :
ke = 0.10 + 1.15 x 0.06 = 0.169 or 16.9%.
kd = 0.13 x (1-0.3) = 0.091 or 9.1%.
Cost of capital = 0.5 x 0.169 + 0.5 x 0.091 = 0.13 or 13%.
Stable growth phase :
ke = 0.09 + 1.0 x 0.05 = 0.14 or 14%.
kd = 0.1286 x (1 - 0.3) = 0.09 or 9%.
Cost of capital = 0.6 x 0.14 + 0.4 x 0.09 = 0.12 or 12%.
Determination of forecasted Free Cash Flow of the Firm (FCFF)
(` in crores)
Yr. 1
Yr. 2
Yr 3
Yr. 4
Terminal Year
2,400
2,880
3,456
4,147.20
4,561.92
EBIT
EAT
360
252
432
302.40
518.40
362.88
622.08
435.46
684.29
479.00
Capital Expenditure
Less Depreciation
96
115.20
138.24
165.89
100.00
56.00
120.00
67.20
144.00
80.64
172.80
96.77
103.68
375.32
Revenue
Working Capital
Free Cash Flow (FCF)
Yr. 2
Yr 3
Yr. 4
Terminal Year
2,400
360
2,880
432
3,456
518.40
4,147.20
622.08
4,561.92
684.29
Add: Depreciation
252
240
302.40
288
362.88
345.60
435.46
414.72
479.00
456.19
590.40
708.48
850.18
935.19
492
336
403.20
483.84
580.61
456.19
100.00
120.00
144.00
172.80
103.68
56.00
67.20
80.64
96.77
375.32
Revenue
EBIT
EAT
WC
Present Value (PV) of FCFF during the explicit forecast period is:
PVF @ 13%
13.66
PV
(` in crores)
49.56
52.62
55.88
59.32
` 217.38
0.885
0.783
0.693
0.613
1
= ` 18,766 Crores x 0.613 = ` 11,503.56 Crores
(1.13) 4
Profit after tax for KLM for the financial year which has just ended is estimated to be ` 10
crore.
(ii) KLM's after tax profit has an increasing trend of 7% each year and the same is expected
to continue.
(iii) Estimated post tax market return is 10% and risk free rate is 4%. These rates are
expected to continue.
(iv) Corporate tax rate is 30%.
XYZ
ABC
100 lakhs
80 lakhs
--
` 287
` 375
--
40%
50%
50%
1:2
1:3
1:4
No. of shares
13.67
P/E ratio
10
13
12
Equity beta
1. 1
1.1
Assume gearing level of KLM to be the same as for ABC and a debt beta of zero.
You are required to calculate:
(a) Appropriate cost of equity for KLM based on the data available for the proxy entity.
(b) A range of values for KLM both before and after any potential synergistic benefits to XYZ
of the acquisition.
(8 Marks) (May 2010) (M)
Answer
a.
b.
Cost of equity
P/E valuation
= 1.1546
= 0.04 + 1.1546 X (0.1 0.04) = 10.93%
Using proxy
Using XYZs
Entitys P/E
P/E
12 X ` 10 Crore
10 X ` 10 Crore
= ` 120 Crore
= ` 100 Crore
12 X ` 10 Crore X 1.1
10 X ` 10 Crore X 1.1
= ` 132 Crore
= ` 110 Crore
Market Price
Although no information is available about the value of KLM, it may be possible to
calculate a market value based on proportion of earnings of ABC that is generated by
KLM.
= ` 300/13
13.68
= ` 23.08 Crore
If market value of ABC is allocated to KLM in the proportion of relative earning of KLM to
that of ABC, KLM would have a market value of ` 300 crore X [ 10/23.08] = ` 130 Crore.
KLMs Post Tax earning = ` 10 Crore.
If ABCs P/E ratio is applied to it, the market value of KLM becomes ` 10 Crore X 13 = `
130 Crore.
Therefore, it assumes that KLM has the same P/E ratio as that of ABC.
Range of valuation
Pre synergistic
` 100 Crore
` 136.13 Crore
Post synergistic
` 110 Crore
` 149.75 Crore
Question 48
Using the chop-shop approach (or Break-up value approach), assign a value for Cranberry
Ltd. whose stock is currently trading at a total market price of 4 million. For Cranberry Ltd,
the accounting data set forth three business segments: consumer wholesale, retail and
general centers. Data for the firms three segments are as follows:
Business Segment
Segment
Sales
Segment
Assets
Segment Operating
Income
Wholesale
Retail
225,000
720,000
600,000
500,000
75,000
150,000
2,500,000
4,000,000
700,000
General
Industry data for pure-play firms have been compiled and are summarized as follows:
Business
Segment
Capitalization/Sales
Capitalization/Assets
Capitalization/Operating
Income
Wholesale
Retail
0.85
0.7
1.2
0.7
General
0.8
0.7
4
(8 Marks) (November 2011)
Answer
Business Segment
Wholesale
Capital-to-Sales
0.85
Segment Sales
225000
Theoretical Values
191250
13.69
Retail
1.2
720000
864000
General
Total value
0.8
2500000
2000000
3055250
Business Segment
Capital-to-Assets
Segment Assets
Theoretical Values
Wholesale
0.7
600000
420000
Retail
0.7
500000
350000
General
0.7
4000000
2800000
3570000
Capital-toOperating Income
Operating Income
Theoretical Values
Wholesale
75000
675000
Retail
150000
1200000
General
Total value
700000
2800000
4675000
Total value
Business Segment
(` in lakhs)
Assets
(` in lakhs)
200
300
13% Debentures
26 Inventory
74 Sundry debtors
Trade creditors
150
70
50
of
130
10
5
and
Profit
account
Loss
1440
13.70
525
1440
The Company did not perform well and has suffered sizable losses during the last few years.
However, it is felt that the company could be nursed back to health by proper financial
restructuring. Consequently the following scheme of reconstruction has been drawn up :
(i)
Equity shares are to be reduced to ` 25/- per share, fully paid up;
(ii)
Preference shares are to be reduced (with coupon rate of 10%) to equal number of
shares of ` 50 each, fully paid up.
(iii)
Debenture holders have agreed to forgo the accrued interest due to them. In the future,
the rate of interest on debentures is to be reduced to 9 percent.
(iv)
(v)
The company issues 6 lakh of equity shares at ` 25 each and the entire sum was to be
paid on application. The entire amount was fully subscribed by promoters.
(vi)
Land and Building was to be revalued at ` 450 lakhs, Plant and Machinery was to be
written down by ` 120 lakhs and a provision of `15 lakhs had to be made for bad and
doubtful debts.
Required:
(i)
(ii) Prepare the fresh balance sheet after the reconstructions is completed on the basis of
the above proposals.
(6+4 Marks) (November 2011)
Answer
Impact of Financial Restructuring
(i)
` in lakhs
Reduction in equity share capital (6 lakh shares x `75 per share)
450
100
26
85
661
13.71
(b)
Revaluation of Assets
Appreciation of Land and Building (`450 lakhs - `200 lakhs)
250
Total (A)
911
(ii) Amount of `911 lakhs utilized to write off losses, fictious assets and over- valued assets.
Writing off profit and loss account
525
Preliminary expenses
Provision for bad and doubtful debts
10
15
120
Total (B)
675
236
(ii) Balance sheet of Grape Fruit Ltd as at 31st March 2011 (after re-construction)
(` in lakhs)
Liabilities
Amoun
t
Assets
Amoun
t
450
180
Capital Reserve
9% debentures
50
150
74 Sundry debtors
255
Cash-at-Bank
(Balancing figure)*
1165
70
-15
55
280
1165
*Opening Balance of `130/- lakhs + Sale proceeds from issue of new equity shares
`150/- lakhs.
Question 50
M/s Tiger Ltd. wants to acquire M/s. Leopard Ltd. The balance sheet of Leopard Ltd. as on
31st March, 2012 is as follows:
Liabilities
Assets
13.72
Cash
50,000
Retained earnings
12% Debentures
3,00,000 Debtors
3,00,000 Inventories
70,000
2,00,000
13,00,000
16,20,000
16,20,000
Additional Information:
(i)
Shareholders of Leopard Ltd. will get one share in Tiger Ltd. for every two shares.
External liabilities are expected to be settled at ` 5,00,000. Shares of Tiger Ltd. would be
issued at its current price of ` 15 per share. Debentureholders will get 13% convertible
debentures in the purchasing company for the same amount. Debtors and inventories are
expected to realize ` 2,00,000.
(ii) Tiger Ltd. has decided to operate the business of Leopard Ltd. as a separate division.
The division is likely to give cash flows (after tax) to the extent of
` 5,00,000 per year for 6 years. Tiger Ltd. has planned that, after 6 years, this division
would be demerged and disposed of for ` 2,00,000.
(iii) The companys cost of capital is 16%.
Make a report to the Board of the company advising them about the financial feasibility of this
acquisition.
Net present values for 16% for ` 1 are as follows:
Years
PV
1
.862
2
.743
3
.641
4
.552
5
.476
6
.410
5,25,000
5,00,000
3,00,000
13% Debentures
Less: Realization of Debtors and Inventories
Cash
13,25,000
2,00,000
50,000
10,75,000
13.73
Net Present Value = PV of Cash Inflow + PV of Demerger of Leopard Ltd. Cash Outflow
= ` 5,00,000 PVAF(16%,6) + ` 2,00,000 PVF(16%, 6) ` 10,75,000
= ` 5,00,000 x 3.684 + ` 2,00,000 x 0.410 ` 10,75,000
= ` 18,42,000 + ` 82,000 ` 10,75,000
= ` 8,49,000
Since NPV of the decision is positive it is advantageous to acquire Leopard Ltd.