Question

Your company has earnings per share of

$5.

It has

1

million shares​ outstanding, each of which has a price of

$44.

You are thinking of buying​ TargetCo, which has earnings of

$3

per​ share,

1

million shares​ outstanding, and a price per share of

$26.

You will pay for TargetCo by issuing new shares. There are no expected synergies from the transaction. Suppose you offered an exchange ratio such​ that, at current​ pre-announcement share prices for both​ firms, the offer represents a

16%

premium to buy TargetCo. ​ However, the actual premium that your company will pay for TargetCo when it completes the transaction will not be

16%​,

because on the announcement the target price will go up and your price will go down to reflect the fact that you are willing to pay a premium for TargetCo without any synergies. Assume that the takeover will occur with certainty and all market participants know this on the announcement of the takeover​ (ignore time value of​ money).

a. What is the price per share of the combined corporation immediately after the merger is​ completed?

b. What is the price of your company immediately after the​ announcement?

c. What is the price of TargetCo immediately after the​ announcement?

d. What is the actual premium your company will​ pay?

Answer 1

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