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The below homework question is from the BIRDIE GOLF case study in the Corporate Finance book...

The below homework question is from the BIRDIE GOLF case study in the Corporate Finance book (11th Edition) page 921:

Please provide at least two or three sentences in answering the question. SHOW ALL CALCULATIONS. Thank you.

2. What is the highest price per share that Birdie should be willing to pay for Hybrid?

THE BIRDIE GOLF—HYBRID GOLF MERGER Birdie Golf, Inc., has been in merger talks with Hybrid Golf Company for the past six months. After several rounds of negotiations, the offer under discussion is a cash offer of $352 million for Hybrid Golf. Both companies have niche markets in the golf club industry, and the companies believe a merger will result in significant synergies due to economies of scale in manufacturing and marketing, as well as significant savings in general and administrative expenses. Bryce Bichon, the financial officer for Birdie, has been instrumental in the merger negotiations. Bryce has prepared the following pro forma financial statements for Hybrid Golf assuming the merger takes place. The financial statements include all synergistic benefits from the merger:

2015

2016

2017

2018

2019

Sales

$512,000,000

$576,000,000

$640,000,000

$720,000,000

$800,000,000

Production Costs

359,200,000

403,200,000

448,000,000

505,600,000

564,000,000

Depreciation

48,000,000

51,200,000

52,800,000

53,120,000

53,600,000

Other Expenses

51,200,000

57,600,000

64,000,000

72,320,000

77,600,000

EBIT

$ 53,600,000

$ 64,000,000

$ 75,200,000

$88,960,000

$104,800,000

Interest

12,160,000

14,080,000

15,360,000

16,000,000

17,280,000

Taxable Income

$ 41,440,000

$49,920,000

$59,840,000

$72,960,000

$87,520,000

Taxes 40%

16,576,000

19,968,000

23,936,000

29,184,000

35,008,000

Net Income

$24,864,000

$29,952,000

$35,904,000

$43,776,000

$52,512,000

Bryce is also aware that the Hybrid Golf division will require investments each year for continuing operations, along with sources of financing. The following table outlines the required investments and sources of financing:

2015

2016

2017

2018

2019

Investments:

Networking Capital

$12,800,000

$16,000,000

$16,000,000

$19,200,000

$19,200,000

Fixed Assets

9,600,000

16,000,000

11,520,000

76,800,000

4,480,000

TOTAL

$22,400,000

$32,000,000

$27,520,000

$96,000,000

$23,680,000

Sources of Financing:

New Debt

$22,400,000

$10,240,000

$10,240,000

$9,600,000

$7,680,000

Profit Retention

                  $0

$21,760,000

$17,280,000

$17,280,000

$16,000,000

TOTAL

$22,400,000

$32,000,000

$27,520,000

$26,880,000

$23,680,000

The management of Birdie Golf feels that the capital structure at Hybrid Golf is not optimal. If the merger takes place, Hybrid Golf will immediately increase its leverage with a $71 million debt issue, which would be followed by a $96 million dividend payment to Birdie Golf. This will increase Hybrid’s debt-to-equity ratio from .50 to 1.00. Birdie Golf will also be able to use a $16 million tax loss carryforward in 2016 and 2017 from Hybrid Golf’s previous operations. The total value of Hybrid Golf is expected to be $576 million in five years, and the company will have $192 million in debt at that time. Stock in Birdie Golf currently sells for $94 per share, and the company has 11.6 million shares of stock outstanding. Hybrid Golf has 5.2 million shares of stock outstanding. Both companies can borrow at an 8 percent interest rate. The risk-free rate is 6 percent, and the expected return on the market is 13 percent. Bryce believes the current cost of capital for Birdie Golf is 11 percent. The beta for Hybrid Golf stock at its current capital structure is 1.30.

Homework Answers

Answer #1
Hybrid Cost of Equity(6+1.3*7)              15.10%
Cost of Debt 8%
Weighted Average cost of Capital

13.325 %

Year 0 2019
Cash offer -352
Dividend -96
Terminal value 576
Total -448 576
Discount rate 1           0.50
Present Value     -448.00      285.13
NPV     -162.87

Highest Price =$285.13 Million

Highest Price/share = 285.13/5.2 =$54.83/share

Because this is a cash acquisition, we wouldn’t have to generate additional shares upon acquisition, so we would just divide the new “highest” price acceptable by Hybrid’s current number of shares outstanding (5,200,000), giving you theprice per share Hybrid is getting for the merger.

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