question archive CASE 3 (25 points) Poppy Corporation is analysing the possible acquisition of Tulip Company
CASE 3 (25 points) Poppy Corporation is analysing the possible acquisition of Tulip Company
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CASE 3 (25 points) Poppy Corporation is analysing the possible acquisition of Tulip Company. There are two alternatives for Poppy: to use cash or stock as payment. Both firms have no debt. Poppy believes the acquisition will increase its total after-tax annual cash flow by €1.3 million indefinitely. The current market value of Tulip is €27 million, and that of Poppy is €62 million. The appropriate discount rate for the incremental cash flows is 11 percent. Poppy is trying to decide whether it should offer 35 percent of its stock or €37 million in cash to Tulip’s shareholders.
Instructions:
a. What is the cost of each alternative? (5 points)
b. What is the NPV of each alternative? (5 points)
c. Which alternative should Poppy choose? (5 points)
d. What are some important factors in deciding whether to use stock or cash in an acquisition? (5 points)
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Given Details(All amounts in million Euros)
Indefinite After Tax Cash Flows 1.3
Market Value of Tulip 27.0
Market Value of Poppy 62.0
Discount rate for annual Cash flows 11%
Present value of Future Cash Flows =1.3/11% =11.8
Total Value derived from Acquisition =11.8+27=38.8
a)Cost of Each Alternative
1)35% of Stock =62*35%=21.7
2)In cash payment =37
b)NPV of Each Alternative
1)35% of Stock = 38.8-21.7=17.1
2)In Cash Payment =38.8-37 =1.8
c) The best option to discharge the consideration for this acquisition is 35% of Stock
d) If poppy pays the consideration in cash it has to pay upfront the huge amount results in decrease of reserves and if poppy pays the consideration in stock it has nothing to pay in cash but results in decreasing of shareholding in the company.If the company is concerned about losing of shareholding power it is advisable to pay in cash otherwise offering the consideraton through shares is more beneficial in present value terms
