A seafood processing equipment manufacturer has decided to expand into a related business. Management estimates that to build and staff
a facility of the desired sized and to attain capacity operations would cost $125 million in present value terms. Alternatively the
company could acquire and existing firm or division with the desired capacity. One such opportunity is the division of another company. The book value of the
division%u2019s assets is $70 million and its earnings before interest and tax are presently $15million. Publicly traded comparable companies are selling in a
narrow range around 11times current earnings. These companies have book value debt-to-asset ratios averaging 40% with an average interest rate of 10%
1. 1. Using the tax rate of 34 percent estimate the minimum price the owner of the division should consider for its
2.2. What is the maximum price the acquirer should be willing to pay?
3.3. Does it appear that an acquisition is feasible? Why or why not?
4.4. Would a 20% increase in stock prices to an industry average price-to-earning ratio of 13.2 change your answer to in question 3?
Why or Why not?
5.5. Referring to the $125 million price tag as the replacement value of the division what would you predict would happen to
acquisition activity when the market values of companies and divisions rise about their replacement values?