Your firm is considering a merger with Skyline Corp

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Your firm is considering a merger with Skyline Corp. Skyline has 10,000,000 shares outstanding and a target capital structure of 30% debt. Skyline's debt interest rate is 9% on $65M in debt. The risk-free interest rate is .5 and the market risk premium is 5%. Both firms are in the same tax bracket of 32%. Skyline's (levered) equity beta is 1.50. The current value of Skyline's stock is $60 per share. You estimate synergies will produce the additional income given below. After year 2, the tax shields and free cash flows will grow by 5% and the combined firm will maintain the 30% debt ratio. 

 

1)     Use the adjusted present value (APV) to find the per share value of Skyline to your firm. Use the WACC to get the horizon value (HV). Use M&M no tax relationship to get the unlevered cost of capital.

 

Income Statement:

                                        Y1:                          Y2:                     Y3:

EBIT:                                20m                        25m                   28m

Interest Expense           3m                         3m                      3m

EBT                                    17m                        22m                   25m

Taxes                                

Net Income   

Net Investment In Operating Capital 2m  2.2m 2.5m

 

2)     The CEO of Skyline Corporation is considering the possible synergies and the difficulty of realizing them. Considering this is she more likely to want a stock or cash offer? Why?

 

Additional Information: Sales are $20 million for the most recent year. Cost of goods sold are $10 million. Inventory is $ 1 million Gross margin is 15%. EBIT is 2 million. Tax Rate is 35%. Working Capital is $1 million. Total Assets are $25 million. Retained Earnings are $6 million. Total Liabilities are $25 million.

 

Additional market information: Debt Rate- 3.55%, Beta- .8, Market Cap- 15 million, Stock Price - $23, T-bond - .50.