Question

Portland plc is a soft drink producer which is considering to acquire a food and drink retailer, Starland plc, via a hostile takeover. Financial advisors claim that a combined equity will allow Portland plc to save up to £4 million in the future by bringing the production and distribution of soft drinks under the control of one firm. Both companies are solely financed by equity. Portland plc has 17 million shares at a price of £5.50 each, while Starland plc has 6 million shares at a price of £8.20 each. Portland’s top executives suggest that an initial bid with a premium of 32 percent is ample to persuade the shareholder of the target company to sell their holdings. Portland plc has enough cash reserves to fund the takeover bid. You are asked to assess the proposed takeover from the point of view of Portland’s shareholders assuming that the cost of capital of the combined entity is 20 percent.

Answer 1

Answer to the question:

Saving in future = 4,000,000 pound

Premium paid to the shareholders of target company = 6,000,000 shares * 8.20 * 32%

= 15,744,000 pound

Now since it is not clearly specifies in the question that saving of 4 million is per year or a total saving of future we have two alternative answer ;

Altenative 1 : Saving is per year :

therefore PV of future saving = 4,000,000 / cost of equity

= 20,000,000

Since saving in future cost is more than premium paid, hence proposed takeover is good for portland's shareholders.

Alternative 2 : Saving is one time:

Since Saving in future cost is less then the premium paid, therefore proposed takeover is not good for the portland's shareholders.