CHAPTER 21—MERGERS AND ACQUISITIONS
Synergistic gain
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25. The value of the target firm is calculated by discounting residual cash flows that belong to the acquiring firm’s
shareholders at the target’s cost of equity reflecting any changes to its capital structure as a result of the merger.
a.
b.
True
CHALLENGING
21-5 Merger Analysis
True / False
False
FOFM.BRIG.16.21.05 – Merger Analysis
United States – BUSPROG.FOFM.BRIG.16.06 – Reflective thinking
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Merger analysis
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9/4/2014 3:17 PM
JFND-GO4R-ER3U-1CKN
26. The text gives a number of valid, acceptable reasons for companies to merge. Which of the following is NOT
acceptable?
a.
Synergistic benefits arising from mergers.
b.
Reduction in competition resulting from mergers.
c.
Acquisition of assets at below replacement value.
d.
Attempts to minimize taxes by acquiring a firm with large accumulated losses that can be used immediately.
e.
Using surplus cash to acquire another firm and prevent unfavorable tax consequences for shareholders.
EASY
21-1 Rationale for Mergers
Multiple Choice
CHAPTER 21—MERGERS AND ACQUISITIONS
27. Firms use defensive tactics to fight off undesired mergers. These tactics do NOT include
a.
raising antitrust issues.
b.
developing poison pills.
c.
getting white knights to bid for the firm.
d.
repurchasing their own stock.
e.
engaging in risk arbitrage.
21-6 The Role of Investment Bankers
Multiple Choice
FOFM.BRIG.16.21.06 – The Role of Investment Bankers
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Defensive tactics
Multiple Choice: Conceptual
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28. Which of the following actions does NOT help managers defend against a hostile takeover?
a.
Establishing a poison pill provision.
b.
Granting lucrative golden parachutes to senior managers.
c.
Establishing a super-majority provision in the company’s bylaws to raise the percentage of the board of
FOFM.BRIG.16.21.01 – Rationale for Mergers
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Multiple Choice: Conceptual
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11/13/2014 2:09 PM
CHAPTER 21—MERGERS AND ACQUISITIONS
directors that must approve an acquisition from 50% to 75%.
d.
Retiring long-term debt early to reduce total debt on the balance sheet which will increase the firm’s financial
position.
e.
Finding a “white squire” that will buy enough of the target firm’s shares to block the hostile takeover.
21-6 The Role of Investment Bankers
Multiple Choice
FOFM.BRIG.16.21.06 – The Role of Investment Bankers
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Defensive strategies
Multiple Choice: Conceptual
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11/13/2014 2:22 PM
29. Which of the following statements is most CORRECT?
a.
A conglomerate merger is one where a firm combines with another firm in the same industry.
b.
Regulations in the United States prohibit acquiring firms from using common stock to purchase another firm.
c.
Defensive mergers are designed to make a company less vulnerable to a takeover.
d.
The equity residual method values a target firm by discounting residual cash flows at the acquiring firm’s
overall cost of capital reflecting the combined firm’s post-merger capital structure.
e.
A financial merger occurs when the operations of the firms involved are integrated in the hope of achieving
synergistic benefits.
Multiple Choice
FOFM.BRIG.16.21.00 – Comprehensive
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Multiple Choice: Conceptual
CHAPTER 21—MERGERS AND ACQUISITIONS
30. Which of the following statements is most CORRECT?
a.
Tax considerations often play a part in mergers. If one firm has excess cash, purchasing another firm exposes
the purchasing firm to additional taxes. Thus, firms with excess cash rarely undertake mergers.
b.
The smaller the synergistic benefits of a particular merger, the greater the scope for striking a bargain in
negotiations, and the higher the probability that the merger will be completed.
c.
Since mergers are frequently financed by debt rather than equity, a lower cost of debt or a greater debt
capacity are rarely relevant considerations when considering a merger.
d.
Managers who purchase other firms often assert that the new combined firm will enjoy benefits from
diversification, including more stable earnings. However, since shareholders are free to diversify their own
holdings, and at what’s probably a lower cost, research of U.S. firms suggests that in most cases,
diversification through mergers does not increase the firm’s value.
e.
Research of U.S. firms suggests that managers’ personal motivations have had little, if any, impact on firms’
decisions to merge.
Multiple Choice
FOFM.BRIG.16.21.01 – Rationale for Mergers
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Merger motivation
Multiple Choice: Conceptual
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11/13/2014 2:26 PM
31. Which of the following statements is most CORRECT?
a.
The high value of the U.S. dollar relative to Japanese and European currencies in the 1980s, made U.S.
companies comparatively inexpensive to foreign buyers, spurring many mergers.
b.
During the 1980s, the Reagan and Bush administrations tried to foster greater competition and they were
adamant about preventing the loss of competition; thus, most large mergers were disallowed.
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CHAPTER 21—MERGERS AND ACQUISITIONS
c.
The expansion of the junk bond market made debt more freely available for large acquisitions and LBOs in the
1980s, and thus, it resulted in an increased level of merger activity.
d.
Increased nationalization of business and a desire to scale down and focus on producing in one’s home country
has virtually halted cross-border mergers today.
e.
Because strategic alliances and joint ventures are easy to form and enable firms to compete better in the global
economy than would mergers, merger activity has virtually come to a halt in the 21st century.
Multiple Choice
FOFM.BRIG.16.21.03 – Level of Merger Activity
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Level of merger activity
Multiple Choice: Conceptual
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11/13/2014 2:28 PM
32. Which of the following statements is most CORRECT?
a.
The acquiring firm’s required rate of return in most horizontal mergers will not be affected, because the two
firms will have similar betas.
b.
The goal of merger valuation is to value the target firm’s total capital at the target firm’s weighted average cost
of capital because a firm is acquired from all of its investors—both shareholders and creditors.
c.
The basic rationale for any financial merger is synergy and, thus, the estimation of pro forma cash flows is the
single most important part of the analysis.
d.
In most mergers, the benefits of synergy and the premium the acquirer pays over the market price are summed
and then divided equally between the shareholders of the acquiring and target firms.
e.
The primary rationale for most operating mergers is synergy.
Multiple Choice
FOFM.BRIG.16.21.05 – Merger Analysis
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
CHAPTER 21—MERGERS AND ACQUISITIONS
Merger analysis
Multiple Choice: Conceptual
4/17/2014 5:07 PM
11/13/2014 2:30 PM
33. Which of the following statements is most CORRECT?
a.
Leveraged buyouts (LBOs) occur when a firm issues equity and uses the proceeds to take a firm public.
b.
In a typical LBO, bondholders do well but shareholders see their value decline.
c.
Firms are forbidden by law to sell any assets during the first five years following a leverage buyout.
d.
Not all target firms are acquired by publicly traded corporations. In recent years, an increasing number of
firms have been acquired by private equity firms. Private equity firms raise capital from wealthy individuals
and look for opportunities to make profitable investments.
e.
In an LBO sometimes the acquiring group plans to run the acquired company for a number of years, boost its
sales and profits, and then take it public again as a stronger company. In other instances, the LBO firm plans to
sell off divisions to other firms that can gain synergies. In either case, the acquiring group expects to make a
substantial profit from the LBO, but the inherent risks are small due to the heavy use of venture capital and
very little debt.
21-9 Private Equity Investments
Multiple Choice
FOFM.BRIG.16.21.09 – Private Equity Investments
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Multiple Choice: Conceptual
4/17/2014 5:07 PM
11/13/2014 2:31 PM
34. Which of the following statements is most CORRECT?
a.
If a company that produces military equipment merges with a company that manages a chain of motels, this is
an example of a horizontal merger.
CHAPTER 21—MERGERS AND ACQUISITIONS
b.
A defensive merger is one where the firm’s managers decide to merge with another firm to avoid or lessen the
possibility of being acquired through a hostile takeover.
c.
Acquiring firms send a signal that their stock is undervalued if they choose to use stock to pay for the
acquisition.
d.
In a liquidation, the firm’s existing stockholders are given new stock representing separate ownership rights in
the division that was divested. The division establishes its own board of directors and officers, and it becomes
a separate company.
e.
If there are no synergistic benefits to be gained from a merger, the acquiring company will stop its plans for
the merger. However, if synergistic gains are large, plans for the merger will continue. In fact, the greater the
synergistic gains, the smaller the gap between the target’s current price and the maximum the acquiring
company could pay because of the acquiring company’s upper hand in the merger.
MODERATE
Comprehensive
Multiple Choice
False
FOFM.BRIG.16.21.00 – Comprehensive
United States – BUSPROG.FOFM.BRIG.16.03 – Analytic skills
United States – OH – DISC.FOFM.BRIG.16.15 – Mergers and acquisitions
Merger concepts
Multiple Choice: Conceptual
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11/13/2014 2:32 PM
JFND-GO4R-ER3U-1CJ1
GO4W-NQNBEE
35. Simpson Inc. is considering a vertical merger with The Lachey Company. Simpson currently has a required return of
11%, while Lachey’s required return is 15%. The market risk premium is 5% and the risk-free rate is 5%. Assume the
market is in equilibrium. If Simpson is going to make up 67% of the new firm (and Lachey will comprise the remaining
33%), what will be the beta of the new merged firm? There will be no additional infusion of debt in the merger.
a.
1.46
b.
1.54
c.
1.61
d.
1.69
e.
1.78
a
Simpson:
Required return
Weight
Lachey:
Required return
Weight
CHAPTER 21—MERGERS AND ACQUISITIONS
MODERATE
21-5 Merger Analysis
False
JFND-GO4R-ER3U-1CJT
36. Gekko Properties is considering purchasing Teldar Properties. Gekko’s analysts project that the merger will result in
incremental after-tax cash flows of $2 million, $4 million, $5 million, and $10 million over the next four years. The
horizon value of the firm’s operations, as of Year 4, is expected to be $107 million. Assume all cash flows occur at the end
of the year. The acquisition would be made immediately, if it is undertaken. Teldar’s post-merger beta is estimated to be
2.0, and its post-merger tax rate would be 35%. The risk-free rate is 6%, and the market risk premium is 5.5%. What is the
value of Teldar to Gekko Properties?
a.
$66,680,846
b.
$70,190,364
c.
$73,699,883
d.
$77,384,877
e.
$81,254,121
CHAPTER 21—MERGERS AND ACQUISITIONS
37. At the beginning of the year Ham Inc.’s management is considering making an offer to buy Egg Corporation. Egg’s
projected operating income (EBIT) for the current year is $30 million, but Ham believes that if the two firms were
merged, it could consolidate some operations, reduce Egg’s expenses, and raise its EBIT to $40 million. Neither company
uses any debt, and they both pay income taxes at a 40% rate. Ham has a better reputation among investors, who regard it
as better managed and also less risky, so Ham’s stock has a P/E ratio of 15 versus a P/E of 12 for Egg. Since Ham’s
management will be running the entire enterprise after a merger, investors will value the resulting corporation based on
Ham’s P/E. Based on expected market values, how much synergy should the merger create?
a.
$129.96
b.
$136.80
c.
$144.00
d.
$151.20
e.
$158.76
c
EBIT
Years:
CFs
2,000,000
4,000,000
5,000,000
2,000,000
4,000,000
5,000,000
117,000,000
MODERATE
21-5 Merger Analysis
False
JFND-GO4R-ER3U-1CJZ
CHAPTER 21—MERGERS AND ACQUISITIONS
38. At the beginning of the year Giant Inc.’s management is considering making an offer to buy Micro Corporation.
Micro’s projected operating income (EBIT) for the current year is $30 million, but Giant believes that if the two firms
were merged, it could consolidate some operations, reduce Micro’s expenses, and raise its EBIT to $35 million. Neither
company uses any debt, and they both pay income taxes at a 35% rate. Giant has a better reputation among investors, who
regard it as very well managed and not very risky, so its stock has a P/E ratio of 12 versus a P/E of 9 for Micro. Since
Giant’s management would be running the entire enterprise after a merger, investors would value the resulting corporation
based on Giant’s P/E. If Micro has 10 million shares outstanding, by how much should the merger increase its share price,
assuming all of the synergy will go to its stockholders?
a.
$7.94
b.
$8.36
c.
$8.80
d.
$9.26
e.
$9.75
e
EBIT
MODERATE
21-7 Do Mergers Create Value? The Empirical Evidence
False
JFND-GO4R-ER3U-1CJO
GO4W-NQNBEE
CHAPTER 21—MERGERS AND ACQUISITIONS
39. Anacott Steel is acquiring Terafly Incorporated. Terafly is expected to provide Anacott with operating cash flows of
$12, $21, $16, and $9 million over the next four years, respectively. In addition, the horizon value of all remaining cash
flows at the end of Year 4 is estimated at $18 million. The merger will cost Anacott $45.0 million today. If the value of
the merger is estimated at $9.00 per share and Anacott has 1,000,000 shares outstanding, what equity discount rate must
the firm be using to value this acquisition?
a.
11.63%
b.
12.25%
c.
12.89%
d.
13.57%
e.
14.25%
21-5 Merger Analysis
MODERATE
21-7 Do Mergers Create Value? The Empirical Evidence
False
JFND-GO4R-ER3U-1CJS
4OTI-GO4W-NQNBEE
CHAPTER 21—MERGERS AND ACQUISITIONS