Birdie Golf, Inc., has been in merger talks with Hybrid Golf Company for the past six months. After several rounds of negotiations, the offer under discussion is a cash offer of $352 million for Hybrid Golf. Both companies have niche markets in the golf club industry, and the companies believe a merger will result in significant synergies due to economies of scale in manufacturing and marketing, as well as significant savings in general and administrative expenses. Bryce Bichon, the financial officer for Birdie, has been instrumental in the merger negotiations. Bryce has prepared the following pro forma financial statements for Hybrid Golf assuming the merger takes place. The financial statements include all synergistic benefits from the merger:   2019 2020 2021 2022 2023 Sales $409,600,000 $460,800,000 $512,000,000 $576,000,000 $640,000,000 Production costs 287,400,000 332,500,000 358,400,000 404,500,000 451,200,000 Depreciation 38,400,000 40,900,000 42,300,000 42,500,000 43,900,000 Other expenses   40,900,000   46,100,000   51,200,000   57,900,000   63,100,000 EBIT $  42,900,000 $  51,300,000 $  60,100,000 $  71,100,000 $  81,800,000 Interest     9,730,000    11,260,000   12,300,000   12,800,000    13,800,000 Taxable income $  33,170,000 $  40,040,000 $  47,800,000 $  58,300,000 $  68,000,000 Taxes (25%)      8,292,500   10,010,000   11,950,000   14,575,000   17,000,000 Net income $  24,877,500 $  30,030,000 $  35,850,000 $  43,725,000 $  51,000,000 Bryce also is aware that the Hybrid Golf division will require investments each year for continuing operations, along with sources of financing. The following table outlines the required investments and sources of financing:   2019 2020 2021 2022 2023 Investments: Net working capital $10,200,000 $12,800,000 $12,800,000 $15,400,000 $15,400,000 Fixed assets      7,700,000    13,800,000      9,300,000    31,400,000      3,900,000 Total $17,900,000 $26,600,000 $22,100,000 $46,800,000 $19,300,000 Sources of financing:   New debt $17,900,000 $  9,200,000 $  8,200,000 $15,000,000 $  6,100,000 Profit retention                      0    17,400,000    13,900,000    31,800,000    13,200,000 Total $17,900,000 $26,600,000 $22,100,000 $46,800,000 $19,300,000 The management of Birdie Golf feels that the capital structure at Hybrid Golf is not optimal. If the merger takes place, Hybrid Golf will immediately increase its leverage with a $57 million debt issue, which would be followed by a $76 million dividend payment to Birdie Golf. This will increase Hybrid’s debt-equity ratio from .50 to 1.00. Birdie Golf also will be able to use a $12.8 million tax loss carryforward in both 2019 and 2020 from Hybrid Golf’s previous operations. The total value of Hybrid Golf is expected to be $460.8 million in five years, and the company will have $153.6 million in debt at that time. Stock in Birdie Golf currently sells for $94 per share, and the company has 11.6 million shares of stock outstanding. Hybrid Golf has 5.2 million shares of stock outstanding. Both companies can borrow at an 8 percent interest rate. The risk-free rate is 6 percent, and the expected return on the market is 13 percent. Bryce believes the current cost of capital for Birdie Golf is 11 percent. The beta for Hybrid Golf stock at its current capital structure is 1.30. Bryce has asked you to analyze the financial aspects of the potential merger. Specifically, he has asked you to answer the following questions: 1.Suppose Hybrid shareholders will agree to a merger price of $63.25 per share. Should Birdie proceed with the merger?

FINANCIAL ACCOUNTING
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ISBN:9781259964947
Author:Libby
Publisher:Libby
Chapter1: Financial Statements And Business Decisions
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Birdie Golf, Inc., has been in merger talks with Hybrid Golf Company for the past six months. After several rounds of negotiations, the offer under discussion is a cash offer of $352 million for Hybrid Golf. Both companies have niche markets in the golf club industry, and the companies believe a merger will result in significant synergies due to economies of scale in manufacturing and marketing, as well as significant savings in general and administrative expenses.

Bryce Bichon, the financial officer for Birdie, has been instrumental in the merger negotiations. Bryce has prepared the following pro forma financial statements for Hybrid Golf assuming the merger takes place. The financial statements include all synergistic benefits from the merger:

 

2019

2020

2021

2022

2023

Sales

$409,600,000

$460,800,000

$512,000,000

$576,000,000

$640,000,000

Production costs

287,400,000

332,500,000

358,400,000

404,500,000

451,200,000

Depreciation

38,400,000

40,900,000

42,300,000

42,500,000

43,900,000

Other expenses

  40,900,000

  46,100,000

  51,200,000

  57,900,000

  63,100,000

EBIT

$  42,900,000

$  51,300,000

$  60,100,000

$  71,100,000

$  81,800,000

Interest

    9,730,000

   11,260,000

  12,300,000

  12,800,000

   13,800,000

Taxable income

$  33,170,000

$  40,040,000

$  47,800,000

$  58,300,000

$  68,000,000

Taxes (25%)

     8,292,500

  10,010,000

  11,950,000

  14,575,000

  17,000,000

Net income

$  24,877,500

$  30,030,000

$  35,850,000

$  43,725,000

$  51,000,000

Bryce also is aware that the Hybrid Golf division will require investments each year for continuing operations, along with sources of financing. The following table outlines the required investments and sources of financing:

 

2019

2020

2021

2022

2023

Investments:

Net working capital

$10,200,000

$12,800,000

$12,800,000

$15,400,000

$15,400,000

Fixed assets

     7,700,000

   13,800,000

     9,300,000

   31,400,000

     3,900,000

Total

$17,900,000

$26,600,000

$22,100,000

$46,800,000

$19,300,000

Sources of financing:

 

New debt

$17,900,000

$  9,200,000

$  8,200,000

$15,000,000

$  6,100,000

Profit retention

                     0

   17,400,000

   13,900,000

   31,800,000

   13,200,000

Total

$17,900,000

$26,600,000

$22,100,000

$46,800,000

$19,300,000

The management of Birdie Golf feels that the capital structure at Hybrid Golf is not optimal. If the merger takes place, Hybrid Golf will immediately increase its leverage with a $57 million debt issue, which would be followed by a $76 million dividend payment to Birdie Golf. This will increase Hybrid’s debt-equity ratio from .50 to 1.00. Birdie Golf also will be able to use a $12.8 million tax loss carryforward in both 2019 and 2020 from Hybrid Golf’s previous operations. The total value of Hybrid Golf is expected to be $460.8 million in five years, and the company will have $153.6 million in debt at that time.

Stock in Birdie Golf currently sells for $94 per share, and the company has 11.6 million shares of stock outstanding. Hybrid Golf has 5.2 million shares of stock outstanding. Both companies can borrow at an 8 percent interest rate. The risk-free rate is 6 percent, and the expected return on the market is 13 percent. Bryce believes the current cost of capital for Birdie Golf is 11 percent. The beta for Hybrid Golf stock at its current capital structure is 1.30.

Bryce has asked you to analyze the financial aspects of the potential merger. Specifically, he has asked you to answer the following questions:

1.Suppose Hybrid shareholders will agree to a merger price of $63.25 per share. Should Birdie proceed with the merger?

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