Question

1. You work for an LBO firm and are evaluating a potential buyout of Cal Inc. Cal’s stock price is $18, and it has 3 million shares outstanding. You believe that if you buy the company and replace its dismal management team, its value will increase by 50%. You are planning on doing a leveraged buyout of Cal and will offer $25 per share for control of the company. Assuming you get 50% control, what will your gain from the transaction be?

A. 81 Million

B. 37.5 Million

C. 25 Million

D. 43.5 Million

E. 21.75 million

Answer 1

Number of Shares outstanding - 3 Millions

Share Price - $18

Current Value of the company = Number of Shares outstanding * Share Price

= $18 * 3 Millions

= $54 Millions

The value of the company after removing dismal management team by 50%.

So, After Leveraged Buy-out value = Current Value of the company * ( 1 + 50%)

= 54 Millions * 1.50

= 81 Millions

Now, You will need to purchase 1.5 Millions shares to get 50% shares and at a share price of $25, You will need to borrow

= 1.5 Millions * 25

= 37.5 Millions

The Value after the offer = 81 Millions - 37.5 Millions

= 43.5 millions

Now, Share price after the offer

= Value after the offer / Number of shares

= 43.5 Millions / 3 Millions

= $14.5

You own 50% of the shares which is 1.5 Millions

So, the gain will be

= 1.5 Millions * $14.5

= 21.75 Millions

Therefore, correct answer is Option E