Alpha Corporation is analyzing whether or not it should acquire Beta Corporation

Question

Alpha Corporation is analyzing whether or not it should acquire Beta Corporation.

Alpha has determined that the appropriate discount rate for the analysis is 12%. Beta has 12,000 shares of stock outstanding, no debt, and its cash flows including synergies over the next three years are estimated as follows:

Year 1 Cash Flow: $200,000

Year 2 Cash Flow: $220,000

Year 3 Cash Flow: $250,000

Alpha's management is conservative and feels the acquisition should be justified by cash flows projected over NO MORE than 3 years. (Hint: this means there is NO horizon value to worry about).

What is the maximum Alpha should pay for a share of Beta's stock?

Explanation / Answer

The present value of cashflows = 200,000/1.12+ 220,000/1.12^2 + 250,000/1.12^3

=531899.1

Value /Number of shares = 532899.1/12000 =44.32

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