Raymond Supply, a national hardware chain, is considering purchasing a smaller c
ID: 2742446 • Letter: R
Question
Raymond Supply, a national hardware chain, is considering purchasing a smaller chain, Strauss & Glazer Parts (SGP). Raymond's analysts project that the merger will result in the following incremental free cash flows, tax shields, and horizon values:
Year
1
2
3
4
Free cash flow
$1
$3
$3
$7
Unlevered horizon value
75
Assume that all cash flows occur at the end of the year. SGP is currently financed with 30% debt at a rate of 10%. The acquisition would be made immediately, and if it is undertaken, SGP would retain its current $15 million of debt and issue enough new debt to continue at the 30% target level. The interest rate would remain the same. SGP's pre-merger beta is 2.0, and its post-merger tax rate would be 34%. The risk-free rate is 8% and the market risk premium is 4%. What is the value of SGP to Raymond? Use the formula WACC = WdRd*(1-T)+WeRe for your discount rate.
a.$38.27
b.$48.83
c.$55.26
d.$60.75
e.$72.10
Year
1
2
3
4
Free cash flow
$1
$3
$3
$7
Unlevered horizon value
75
Explanation / Answer
Answer.:
c) $55.26
Cost of Equity by CAPM model =Risk free return + Beta x Market Risk premium 16.0 Cost of Debt =10*(1-0.34) 6.6 WACC =16*0.7+6.6*0.3 13.18Related Questions
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