Tag (SQ): Acquisitions

The Directors of Kofi Ltd (Kofi), a large listed company, are considering an opportunity to acquire all the shares of Ama Ltd (Ama), a small listed company with a highly efficient production technology.

Kofi has 10 million shares of common stock in issue that are currently trading at GH¢6.00 each. Ama Ltd has 5 million shares of common stock in issue, each of which is trading at GH¢4.50.

If Ama is acquired and integrated into the business of Kofi, the production efficiency of the combined entity would increase and save the combined business GH¢600,000 in operating costs each year to perpetuity.

Though Kofi operates in the same industry as Ama, its financial leverage is higher than that of Ama. Kofi’s total debt stock is valued at GH¢40 million, and its after-tax cost of debt is 22%. The beta of Kofi’s common stock is 1.2. The return on the risk-free asset is 20% and the market risk premium is 5%.

Required:

Suppose Kofi offers a cash consideration of GH¢25 million from its existing funds to the shareholders of Ama for all of their shares.

(a) Calculate the NPV of the acquisition, and advise the directors of Kofi on whether to proceed with the acquisition or not.

(b) Calculate the value of the combined entity immediately after the acquisition.