Question 4 (25 marks)
Golden Golf Inc. has been in merger talks with Birdie Golf Company for the past six months. After several rounds of negotiations, the offer under discussion is a cash offer RM550 million for Birdie Golf. Both companies have niche markets in the golf club industry, and both believe that a merger will result in synergies due to economies of scale in manufacturing and marketing, as well as significant savings in general and administrative expenses. Bryce Bichon, the financial officer for Golden, has been instrument in the merger negotiations. Bryce has prepared the following pro forma financial statements for Birdie Golf assuming the merger takes place. The financial statements include all synergistic benefits from the merger.
2010 (RM’000) 2011 (RM’000) 2012 (RM’000) 2013 (RM‘000) 2014 (RM’000) Sales 800,000 900,000 1,000,000 1,125,000 1,250,000 Production Costs 562,000 630,000 700,000 790,000 875,000 Depreciation 75,000 80,000 82,000 83,000 83,000 Other Expenses 80,000 90,000 100,000 113,000 125,000 EBIT 83,000 100,000 118,000 139,000 167,000 Interest 19,000 22,000 24,000 25,000 27,000 Taxable Income 64,000 78,000 94,000 114,000 140,000 Taxes (40%) 25,600 31,200 37,600 45,600 56,000 Net Income 38,400 46,800 56,400 68,400 84,000 Additions to RE 0 34,000 27,000 27,000 25,000
If Golden Golf buys Birdie Golf, and immediate dividend of RM150 million would be paid from Birdie Golf to Golden. Stock in Golden Golf currently sales for RM94 per share, and the company has 18 million shares of stock outstanding. Birdie Golf has 8 million shares of stock outstanding. Both companies can borrow at an 8% interest rate. Bryce believes the current cost of capital for Golden Golf is 11%, and the cost of capital for Birdie Golf is 16.9%. In five years, the value of Birdie Golf is expected to be RM600 million.
Bryce has asked you to analyze the financial aspects of the potential merger. Specifically, he has asked you to answer the following questions.
1. Suppose Birdie shareholders will agree to a merger price of RM68.75 per share. Should Golden proceed with the merger?(9 marks)
2. What is the highest price per share that Golden should be willing to pay for Birdie?(4 marks)
3. Suppose Golden is unwilling to pay cash for the merger but will consider a stock exchange. What exchange ratio would make the merger terms equivalent to the original merger price of RM68.75 per share?(4 marks)
4. What is the highest exchange ratio Golden should be willing to pay and still undertake the merger?(3 marks)
5. Advise Golden with the merger. (5 marks)