1. Which of the following are legal and acceptable reasons for the high level of merger activity in the U.S. during the 1980s?
a. Synergistic benefits arising from mergers.
b. A profitable firm acquires a firm with large accumulated tax losses that my be carried forward.
c. Attempts to stabilize earnings by diversifying.
d. Purchase of assets below their replacement costs.
e. Reduction in competition resulting from mergers.
2. Which of the following statements about valuing a firm using the APV approach is most CORRECT?
a. The value of operations is calculated by discounting the horizon value, the tax shields, and the free cash flows at the cost of equity.
b. The value of equity is calculated by discounting the horizon value, the tax shields, and the free cash flows at the cost of equity.
c. The value of operations is calculated by discounting the horizon value, the tax shields, and the free cash flows before the horizon date at the unlevered cost of equity.
d. The value of equity is calculated by discounting the horizon value and the free cash flows at the cost of equity.
e. The APV approach stands for the accounting pre-valuation approach.
3. Which of the following statements is most CORRECT?
a. If a company that produces military equipment merges with a company that manages a chain of motels, this is an example of a horizontal merger.
b. A defensive merger is one where the firm's managers decide to merge with another firm to avoid or lessen the possibility of being acquired through a hostile takeover.
c. Acquiring firms send a signal that their stock is undervalued if they choose to use stock to pay for the acquisition.
d. Cash payments are used in takeovers but never in mergers.
e. Managers often are fired in takeovers, but never in mergers.
4. Blazer Inc. is thinking of acquiring Laker Company. Blazer expects Laker’s NOPAT to be $9 million the first year, with no net new investment in operating capital and no interest expense. For the second year, Laker is expected to have NOPAT of $25 million and interest expense of $5 million. Also, in the second year only, Laker will need $10 million of net new investment in operating capital. Laker's marginal tax rate is 40%. After the second year, the free cash flows and the tax shields from Laker to Blazer will both grow at a constant rate of 4%. Blazer has determined that Laker’s cost of equity is 17.5%, and Laker currently has no debt outstanding. Assume that all cash flows occur at the end of the year, Blazer must pay $45 million to acquire Laker. What it the NPV of the proposed acquisition? Note that you must first calculate the value to Blazer of Laker’s equity.
a. $ 45.0 million
b. $ 68.2 million
c. $ 86.5 million
d. $113.2 million
e. $133.0 million
5. Brau Auto, a national autoparts chain, is considering purchasing a smaller chain, South Georgia Parts (SGP). Brau's analysts project that the merger will result in the following incremental free cash flows, tax shields, and horizon values:
Year 1 2 3 4
Free cash flow $1 $3 $3 $7
Unlevered horizon value 75
Tax shield 1 1 2 3
Horizon value of tax shield 32
Assume that all cash flows occur at the end of the year. SGP is currently financed with 30% debt at a rate of 10%. The acquisition would be made immediately, and if it is undertaken, SGP would retain its current $15 million of debt and issue enough new debt to continue at the 30% target level. The interest rate would remain the same. SGP's pre-merger beta is 2.0, and its post-merger tax rate would be 34%. The risk-free rate is 8% and the market risk premium is 4%. What is the value of SGP to Brau?
a. $53.40 million
b. $61.96 million
c. $64.64 million
d. $76.96 million
e. $79.64 million