Valuation using stock-for-stock transaction

On March 1, 2011, Buyer Corp agreed to acquire Target Inc in a stock-for-stock transaction. Buyer is the acquirer and the surviving company. The new company will be named
Newco. Under the terms of the agreement, Target shareholders would receive 0.75 shares of Newco stock per share of Target stock. There were 100m shares of Target stock
outstanding. Each Buyer shareholder would retain his/her shares, which would become shares in Newco. There were 250m Buyer shares outstanding. On February 29, 2011, the
last day of trading before the announcement of the deal, Buyer shares closed at $32.00, while Target shares closed at $17.50. Buyer's EPS is $3.00, and Target's EPS is $2.00.

1. What percentage of Newco will Buyer shareholders own? Target shareholders?

m = number of Buyer shares outstanding
n = number of Target shares outstanding
x = exchange ratio
m + x*n = number of shares in Newco
%Buyer = share of Buyer in Newco
%Target = share of Target in Newco

250
100
0.75
325
77% m / (m + x*n)
23% (x*n) / (m + x*n)

2. What is the acquisition premium in this deal?

PBuyer = Buyer stock price prior to deal announcement
PTarget = Target stock price prior to deal announcement
x = exchange ratio
Acquisition Premium = x*PBuyer - PTarget = 0.75*32 - 17.5 =
To express as percentage of Target's closing price, divide by P Target:
To express as total premium for all Target shares, multiply by n:

32
17.50
0.75
6.50
37%
650

3. What is the zero acquisition premium exchange ratio in this deal?

PBuyer = Buyer stock price prior to deal announcement
PTarget = Target stock price prior to deal announcement
Zero acquisition premium exchange ratio
Acquisition Premium

32
17.50
0.55
0

4. Is this deal accretive from the perspective of the Buyer? What is the maximum exchange ratio that Buyer could
have offered such that the deal would have been accretive from the Buyer's perspective?
The deal will be accretive for Buyer if EPS Newco > EPSBuyer:
Newco:
Total earnings
Shares outstanding
EPSNewco

950
325
2.92

Currently, the deal is dilutive from the Buyer's perspective:

EPSNewco = $
EPSBuyer = $

2.92
3.00

The deal is neither accretive nor dillutive for the buyer if EPS for both sets of shareholders stays at the same level.
Hence the exchange ratio of the companies should be equal to the ratio of the companies' earning per share.
EPSTarget / EPSBuyer =

0.67

For any exchange ratio smaller than 0.67, the deal would be accretive for the Buyer.
For any exchange ratio greater than 0.67, the deal would be dillutive for the Buyer.
If x =0.67 then the deal is neither accretive nor dilutive:
Total earnings
Shares Outstanding
EPSNewco $
EPSNewco = EPSBuyer

950
317
3.00

5. Suppose that Buyer and Target are both trading at their fair stand alone values and that the combination will produce $900 in synergies. What is
highest price Buyer would be willing to pay per share and still break even on the deal? What is the exchange ratio associated with this offer price?
Target stock price
Target Shares Outstanding
Fair Stand Alone Value for Target
Synergy
Total Value
Offer Price Per Share
Buyer Stock Price
Zero NPV Exchange Ratio

17.50
100
1750
900
2650
26.50
32
0.83

FINANCE 2 WINTER 2
REVIEW PROBLEMS AND S
WEEK 10

On March 1, 2011, Buyer Corp agreed to acquire Target Inc in a stock-for-stock transaction. Buyer
be named Newco. Under the terms of the agreement, Target shareholders would receive 0.75 sha
shares of Target stock outstanding. Each Buyer shareholder would retain his/her shares, which wo
outstanding. On February 29, 2011, the last day of trading before the announcement of the deal,
Buyer's EPS is $3.00, and Target's EPS is $2.00.

a. What percentage of Newco will Buyer shareholders own? Target shareholders?

b. What is the acquisition premium in this deal?

c. What is the zero acquisition premium exchange ratio in this deal?

d. Is this deal accretive from the perspective of the Buyer? What is the maximum exchange ratio that Buyer cou
have offered such that the deal would have been accretive from the Buyer's perspective?

e. Suppose that Buyer and Target are both trading at their fair stand alone values and that the combination will pr
highest price Buyer would be willing to pay per share and still break even on the deal? What is the exchange ratio

ANCE 2 WINTER 2011

ROBLEMS AND SOLUTIONS
WEEK 10

or-stock transaction. Buyer is the acquirer and the surviving company. The new company will
ders would receive 0.75 shares of Newco stock per share of Target stock. There were 100m
ain his/her shares, which would become shares in Newco. There were 250m Buyer shares
announcement of the deal, Buyer shares closed at $32.00, while Target shares closed at $17.50.

m exchange ratio that Buyer could

and that the combination will produce $900 in synergies. What is

deal? What is the exchange ratio associated with this offer price?