Fertfood Limited

Fertfood Limited is a manufacturer specialising in plant food, sprays and

fertilisers for residential gardeners. As it has large cash reserves it is currently
looking at acquiring Tools‐4U Limited who manufactures garden tools. Both
companies have the same sales and distribution channels.

Mergers
Workshop 10: Chapter 18
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2 ki Pūrehuroa

Fertfood Limited Dodd Oil: Cash acquisition decision

1. What type of merger is this? Dodd Oil is considering the acquisition of Benson Oil at a cash
A. Horizontal price of $125,000. The combination is expected to increase
B. Vertical Dodd’s cash inflows by $25,000 for each of the next 5 years, and
C. Congeneric $50,000 for each of the following 5 years. Benson has high
D. Conglomerate financial leverage, and Dodd can expect its cost of capital to
increase from 12% to 15% if the merger is undertaken. Would
you recommend the merger if Dodd has the alternative of using
the $125,000 to purchase equipment returning cash inflows of
$40,000 per year for each of the next 10 years?

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3 ki Pūrehuroa 5 ki Pūrehuroa

Dodd Oil: Cash acquisition decision Dodd Oil: Cash acquisition decision
1. Calculate the NPV of the merger. 2. Calculate the NPV of the equipment purchase
n n
CFt CFt
NPV = ෍ – CF଴ NPV = ෍ – CF଴
(1 + r)t (1 + r)t
t=1 t=1

NPV௠௘௥௚௘௥ = $42,135 NPV௘௤௨௜௣ = $101,009

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6 ki Pūrehuroa 8 ki Pūrehuroa

1
 Kiwi Share Swap
Kiwi Ltd is interested in merging with Moa Ltd by swapping 1.25
shares for each share of Moa. Kiwi expects to sell at the same P/E
multiple after the merger as before merging.
a) Calculate the EPS and P/E ratio for each company.
Kiwi Share Swap
Kiwi Ltd is interested in merging with Moa Ltd by swapping 1.25
shares for each share of Moa. Kiwi expects to sell at the same P/E
multiple after the merger as before merging.
b) Calculate the P/E ratio used to purchase Moa.

Kiwi Moa Kiwi Moa

(1) Earnings available for ordinary $225,000 $50,000 (1) Earnings available for ordinary $225,000 $50,000
shares shares
(2) Number of shares outstanding 900,000 150,000 (2) Number of shares outstanding 900,000 150,000
(3) Earnings per share (3) Earnings per share [(1) ÷ (2)] $0.25 $0.33
(4) Market price per share $4.50 $5.00 (4) Market price per share $4.50 $5.00
(5) Price/earnings (P/E) ratio (5) Price/earnings (P/E) ratio [(4) ÷ (3)] 18 15

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10 ki Pūrehuroa 12 ki Pūrehuroa

Kiwi Share Swap Kiwi Share Swap

Ratio of exchange = 1.25 shares c) Calculate the post‐merger EPS
b) Calculate the P/E ratio used to purchase Moa. Total new shares = No. of target firm shares × ratio of exchange
Price paid = Market price of acquirer × ratio of exchange = $5.625 = 187,500
Total shares = 1,087,500
P/E paid = Price paid/EPS of target = 17.05 times Post‐merger EPS = $0.253

Kiwi Moa Kiwi Moa

(1) Earnings available for ordinary $225,000 $50,000 (1) Earnings available for ordinary $225,000 $50,000
shares shares
(2) Number of shares outstanding 900,000 150,000 (2) Number of shares outstanding 900,000 150,000
(3) Earnings per share [(1) ÷ (2)] $0.25 $0.33 (3) Earnings per share [(1) ÷ (2)] $0.25 $0.33
(4) Market price per share $4.50 $5.00 (4) Market price per share $4.50 $5.00
(5) Price/earnings (P/E) ratio [(4) ÷ (3)] 18 15 (5) Price/earnings (P/E) ratio [(4) ÷ (3)] 18 15

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Kiwi Share Swap

Kiwi expects to sell at the same P/E multiple after the merger as
before merging.
d) Calculate the expected post‐merger market price per share
New market price = new EPS ×P/E
= $4.55

Kiwi Moa
(1) Earnings available for ordinary $225,000 $50,000
shares
(2) Number of shares outstanding 900,000 150,000
(3) Earnings per share [(1) ÷ (2)] $0.25 $0.33
(4) Market price per share $4.50 $5.00
(5) Price/earnings (P/E) ratio [(4) ÷ (3)] 18 15

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17 ki Pūrehuroa