Page 210 - DMGT409Basic Financial Management

Unit 13: Theory and Forms of Dividend

Illustration 4: The following is the information relating to the acquiring company (A) and the Notes
Target Company (T)
A T
Earnings after Tax (EAT) (Rs). 50,00,000 10,00,000
Number of shares 5,00,000 2,00,000
Earnings per shares (Rs) 10 5
P/E Ratio 15 10
Market price per share (Rs) 150 50

Based on the evaluation of T, A has agreed to offer ` 65 per shares to T. This is 30% premium
over the premerger market price of ` 50. If the offer price is ` 65, exchange ratio is determined
as below.
Offer price
ER =
Sharepriceof theacquires

65
= = 0.4333 shares
150
So A will issue 0.4333 shares for every one share of the target company. The total number of
shares to be issued is exchanged ratio x number of shares of T Company.

0.4333 × 2,00,000 = 86666 shares
Earnings per shares of the surviving company after the merges is calculated as below.
Combined earnings
Total Number of shares
Rs. 60,00,000
=
+
5,00,000 86666
In the above case the EPS of A has increased from ` 10 to ` 10.22
Assuming that the offer price of ` 65 is rejected by the target company. So A company will offer
` 90 per shares to the target company. Now the exchange ratio would be:
90
ER = = 0.60 shares
150
So 0.6 shares of A must be issued for every shares of T company.

Total number of shares to be issued is 0.6 × 2,00,000 = 120,000 shares.
Now EPS of the surviving company after the merger would be:
60,00,000
EPS = = Rs.9.67
+
5,00,000 1,20,000
So when the offer prices is ` 90 per shares, the EPS of the A company falls to ` 9.67 from
Rs. 10.

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