Hybrid Golf and Birdie Gold have been engaged in merger talks over the past six months. Both firms have niche markets and believe that the merger will benefit them by reducing administrative and general costs. The firms also believe that the merger will enable them to enjoy economies of scale in marketing and manufacturing. Hybrid shareholders have accepted the merger at the price of $68.75 per share. This paper evaluates this merger price from a financial perspective.
Given the number of stock outstanding at Hybrid is 5.2 million shares, a merger price of $68.75 per share means that Birdie will have to pay Hybrid’s shareholders a total of $ 357.24 million (5.2 * $68.75). Birdie’s decisions to proceed with the merger should be determined by whether the price arrived at by Hybrid ($357.24 million) matches the expected value of the firm (Johnson, 2010). It is essential for corporate acquirers to examine the current, as well as, the expected value of the financial statement of the acquired company. In this case, Birdie needs to determine the expected value of Hybrid.
Computations show the expected value of Hybrid is $ 331,376,222. This value was obtained by discounting Hybrid’s operating free cash flow for the next five years using the weighted average cost of capital (WACC) for the organization (Ross, Westerfield, & Jordan, 2013). The computation shows that the value quoted by Hybrid is lower than the expected market value of the firm. Therefore, Birdie should not agree to go on with the merger at the agreed price of $68.75 per share.
The maximum price per share that Birdie should be prepared to pay for Hybrid is $63.73. This price should be the utmost value because the expected market value of Hybrid is $ 331,376,222 while the number of outstanding shares is 5.2 million. The maximum price per share that Birdie should reimburse for Hybrid should not exceed the expected value of the firm. The maximum price per share can be obtained by dividing the expected market value of Hybrid with the number of outstanding shares (331,376,222/ 5,200,000).
Sometimes, a merger can take place without the involvement of cash. In such situations, the corporate acquirer exchanges its share for the share of the target company at a given ratio (Ross, Westerfield & Jordan, 2013). A suitable exchange ratio should ensure that the number of shares traded by Hybrid’s shareholders is equivalent to the value of Birdie’s shares that they will receive (Czerwonka, 2013). The market value of a share of Birdie’s stock is $94 while the original merger price is $68.75 per share. Therefore, the most ideal exchange ratio is 0.73. This ratio means that Hybrids shareholders will receive 0.73 of Birdies shares for every share of Hybrid’s stock.
The highest exchange ratio that Birdie should be ready to give and still proceed with the merger is 0.68. Financial figures have shown that the expected market value of hybrid is $331,376,222. Given that Hybrid has 5.2 million outstanding shares, the price per share that Birdie should be willing to pay for Hybrid us $63.73. Therefore, the highest exchange ratio is obtained by dividing this price per share with price per share of Birdie stock ($63.74/ $94).
Financial statement analysis is vital in determining the value of the merger (Johnson, 2010). The proposed merger promises to enhance the financial positions of both firms. However, the price quoted by Hybrid’s shareholders is more that the expected value of the firm. Therefore, Birdie cannot agree to the merger at the price of $68.75 per share. The maximum price per share that Birdie should be willing to pay for Hybrid is $63.74. If Birdie wants to go the stock exchange way, the maximum ratio that the firm should agree to is 0.68 of Birdies share per share of Hybrid.
Ross, S. Westerfield, R. & Jordan, B. (2013). Essentials of Corporate Finance. USA; McGraw-Hill Publishers
Johnson, H. (2010). Financial Statement Analysis in Mergers and Acquisitions. Retrieved from http://www.veracap.com/articles/financial-analysis-in-mergers-acquisitions.pdf
Czerwonka, L. (2013). Shareholders wealth and exchange ratio determination. Actual Problems of Economics. 8 (146), 497- 506