Question

# Suppose that Ret is considering the acquisition of another firm in its industry for \$100 million....

Suppose that Ret is considering the acquisition of another firm in its industry for \$100 million. The acquisition is expected to increase Ret’s free cash flow by \$5 million the first year, and this contribution is expected to grow at a rate of 3% every year thereafter. Ret currently maintains a debt to equity ratio of 1, its corporate tax rate is 21%, its cost of debt rD is 6%, and its cost of equity rE is 10%. Ret will maintain a constant debt-equity ratio for the acquisition. The Free Cash Flow-to-Equity (FCFE) for the acquisition in year 1 is closest to _______. •

A. \$6.5 million • B. \$6.8 million • C. \$4.1 million • D. \$8.3 million

I have answered the question below

Please up vote for the same and thanks!!!

Do reach out in the comments for any queries

FCFE = CFO - Capex + New debt issued = -50M

As the company expects to maintain a growth rate of 3% yearly. and debt equity ratio has to be kept constant hence debt should be increased by 3% i.e. \$50M * 3% = \$1.5M

Interest of existing Debt = \$50M * 6% = \$3M

Interest after Tax = \$3M * (1-21%) = \$2.37M

CAsh from operating activity = \$5M -\$2.37M = \$2.63M

FCFE = Cash from operating activites(\$2.63M) - Capital expenditure(0) + New debt issued(\$1.5M)

FCFE = \$4.1M

Hence option C

#### Earn Coins

Coins can be redeemed for fabulous gifts.