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Exam 22: Mergers and Corporate Control

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Question 1

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One of the main reasons why foreign firms are interested in buying U.S.companies is to gain entrance to the U.S.market.A decline in the value of the dollar relative to most foreign currencies makes this competitive strategy especially attractive.

A) True
B) False

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Question 2

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Since a manager's central goal is to maximize the firm's stock price,any merger offer that provides stockholders with significant gains over the current stock price will be approved by the current management team.

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B) False

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Question 3

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Which of the following statements is most CORRECT?

The present value of the free cash flows discounted at the unlevered cost of equity is the value of the firm's operations if it had no debt.

A spin-off is a type of divestiture in which the assets of a division are sold to another firm.

Which of the following statements about valuing a firm using the APV approach is most CORRECT?

Borrowing funds on terms that would require immediate repayment of all funds if the firm is acquired,selling off valuable assets,and granting huge "golden parachutes" that open if the firm is acquired are three procedures used to defend against hostile takeovers.These strategies are known as "poison pills."

Currently (2012),mergers can be accounted for using either the purchase method or the pooling method.

Although goodwill created in a merger may not be amortized for shareholder reporting purposes,it may be amortized for Federal tax purposes.

Coca-Cola's acquisition of Columbia Pictures and its announcement that it would operate its new subsidiary separately could be described as primarily a financial merger.

Raymond Supply,a national hardware chain,is considering purchasing a smaller chain,Strauss & Glazer Parts (SGP) .Raymond's analysts project that the merger will result in the following incremental free cash flows,tax shields,and horizon values: $\begin{array} { l c c c c } \text { Year } & 1 & 2 & 3 & 4 \\\hline \text { Free cash flow } & \$ 1 & \$ 3 & \$ 3 & 4 \\\text { Unlevered horizon value } & & & & 75 \\\text { Tax shield } & 1 & 1 & 2 & 3 \\\text { Horizon value of tax shield } & & & & 3\end{array}$ Assume that all cash flows occur at the end of the year.SGP is currently financed with 30% debt at a rate of 10%.The acquisition would be made immediately,and if it is undertaken,SGP would retain its current $15 million of debt and issue enough new debt to continue at the 30% target level.The interest rate would remain the same.SGP's pre-merger beta is 2.0,and its post-merger tax rate would be 34%.The risk-free rate is 8% and the market risk premium is 4%.What is the value of SGP to Raymond?

Discounted cash flow methods are not appropriate for evaluating mergers because the cash flows are uncertain and the discount rate can only be determined after the merger is consummated.

The two principal advantages of holding companies are (1)the holding company can control a great deal of assets with limited equity and (2)the dividends received by the parent from the subsidiary are not taxed if the parent holds at least 50% of the subsidiary's stock.

Which of the following statements is most CORRECT?

Which of the following are legal and acceptable reasons for the high level of merger activity in the U.S.during the 1980s?

In a financial merger,the relevant post-merger cash flows are simply the sum of the expected cash flows of the two companies,measured as if they were operated independently.

Holland Auto Parts is considering a merger with Workman Car Parts.Workman's market-determined beta is 0.9,and the firm currently is financed with 20% debt,at an interest rate of 8%,and its tax rate is 25%.If Holland acquires Workman,it will increase the debt to 60%,at an interest rate of 9%,and the tax rate will increase to 35%.The risk-free rate is 6% and the market risk premium is 4%.What will Workman's required rate of return on equity be after it is acquired?

Most defensive mergers occur as a result of managers' actions to maximize shareholders' wealth.

If a petrochemical firm that used oil as feedstock merged with an oil producer that had large oil reserves and a drilling subsidiary,this would be a vertical merger.

The primary reason managers give for most mergers is to acquire more assets so as to increase sales and market share.