Solutions Manual
CHAPTER 30 MERGERS AND ACQUISITIONS; DIVESTITURES SUGGESTED ANSWERS TO THE R EVIEW EVIEW QUESTIONS I.
Questions
1. In a merger , two or more companies are combined, but only the identity of the acquiring firm is maintained. In a consolidation, consolidation, an entirely new entity is formed from the combined companies. 2. If two firms firms benefit benefit from oppos opposite ite phases phases of the busine business ss cycle, cycle, their their variability in performance may be reduced. Risk-averse investors may then discount the future performance of the merged firms at a lower rate and thus assign a higher valuation than was assigned to the separate firms. . Horizontal integration is the the acqui acquisit sition ion of compet competito itors, rs, and vertical integration is the acquisition of buyers or sellers of goods and services to the company company.. !ntitrust !ntitrust policy generally generally precludes precludes the eliminati elimination on of competition. "or this reason, mergers are often with companies in allied but not directly related related fields. #. Synergy is said to occur when the whole is greater than the sum of the parts. $his %2 & 2 ' () effect may be the result of eliminating overlapping functions in production and marketing as well as meshing together various engineering capabilities. In terms of planning related to mergers, there is often a tendency to overestimate the possible synergistic benefits that might might accrue. (. $he firm firm can achiev achievee this by acqui acquirin ring g a company company at a lower lower *+ ratio ratio than its own. $he firm with lower *+ ratio may also have a lower growth rate. It is possible that the combined growth rate for the surviving firm may be reduced and long-term earnings growth diminished. diminished. . If earnings earnings per per share show show an immediat immediatee appreciat appreciation, ion, the the acquiring acquiring firm firm may be buying a slower growth firm as reflected in relative *+ ratios. $his immediate appreciation in earnings per share could be associated with a lower *+ ratio. $he opposite effect could take place when there is an immediate dilution to earning per share. bviously, bviously, a number of other factors will also come into play. play. 30-1
Chapter !
Mergers and Acquisitions; Divestitures
/. 0nder the % pooling of interests), the financial statements of the firms are combined subect to some minor adustments and no goodwill is created. 0nder a % purchase of assets), the difference between purchase price and adusted book value is established on the statement of financial position as goodwill and must be written off over a maimum period of #3 years. 4. !n unfriendly takeover may be avoided by5 a. $urning to a second possible acquiring company 6 a %7hite 8night). b. 9oving corporate offices to states with tough pre-notification and protection provisions. c.
:uying back outstanding corporate equity share.
d. ncouraging employees to buy equity share. e.
;taggering the election of directors.
f.
Increasing dividends to keep shareholders happy.
g. :uying up other companies to increase si
*otential earnings dilution may be partially minimi
s share currently has a market price of *(3 per share, and the price of the acquisition is *13 million, using ordinary equity share would require issuing 233,333 shares. In comparison, a convertible preferred issue could be designed to sell at *133 with a 1./ conversion ratio, which would mean a conversion value of *4(. $he *13 million price would be reali
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Mergers and Acquisitions; Divestitures
Chapter "#
number of shares to be issued, thereby reducing the dilution in earnings per share that could ultimately result. b. ! convertible issue may allow the acquiring company to comply with the seller>s income obectives without changing its own dividend policy. If the two firms have different dividend payout policies and the acquirer does not want to commit its ordinary equity share to a dividend rate that suits the seller, convertible preferred share may be an appropriate solution. c.
?onvertible preferred share also represents a possible way of lowering the voting power of the acquired company. $his reduction of voice in management can be important, especially if the seller is a closely held corporation.
d. $he convertible preferred debenture or equity share may appear more attractive to the firm being acquired because it combines senior security protection with a portion of the growth potential of ordinary equity share. 11. $he deferred payment plan , which has come to be called an earn-out, represents a relatively recent approach to merger financing. $he acquiring firm agrees to make a specified initial payment of cash or equity share and, if it can maintain or increase earnings, to pay additional compensation. 12. $he amount of the future payments will be determined by three factors5 a.
the amount of earnings in the forthcoming years in ecess of the base-period profits@
b. the capitali
the market value of the acquiring organi
1. Refer to pages 4#3 through 4#1. II. Multiple Choice Questions
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