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Your firm is buying SmallCo. If you purchase SmallCo, you will be able to invest in...

Your firm is buying SmallCo. If you purchase SmallCo, you will be able to invest in a project with an upfront cost of $21 million, which pays out $2 million after taxes per year for 6 years. Both your firm and SmallCo are all equity, and your unlevered cost of equity will be 0.14 after the merger. If you have to offer SmallCo's shareholders a $9 million premium to get them to accept the deal, what is the NPV of this merger?

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Answer #1

Net present value is solved using a financial calculator. The steps to solve on the financial calculator:

  • Press the CF button.
  • CF0= -$21 million. It is entered with a negative sign since it is a cash outflow.
  • Cash flow for all the years should be entered.
  • Press Enter and down arrow after inputting each cash flow.
  • After entering the last cash flow, press the NPV button and enter the cost of equity of 14%.
  • Press the down arrow and CPT buttons to get the net present value.  

Net Present value of cash flows at 14% cost of equity is -$13.22 million - $9 million = -22.22 million.

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