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Chapter 5: Q.5 (page 648)

What is synergy? What might cause this result? Is there a tendency for management to over- or underestimate the potential synergistic benefits of a merger?

Short Answer

Expert verified

Synergy refers to the situation in which whole is more than the sum of parts.

This result is achieved by the elimination of overlapping functions of production and marketing, as well as combining various engineering capabilities.

There is often tendency for management to over or underestimate the benefit.

Step by step solution

01

Explanation on Merger

Under merger, one business entity combines with other business entities, and continues to operate in the name of acquiring company.

02

Synergy Effect

Under the synergy effect, 鈥�2+2=5鈥�, which indicates that sum of two numbers is less than the whole numbers. Synergy effect indicates that when two or more process companies combine, it provides higher cumulative effect, as compared to individual effect.

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Most popular questions from this chapter

Name three industries in which mergers have been prominent

Chicago Savings Corp. is planning to make an offer for Ernie鈥檚 Bank & Trust. The stock of Ernie鈥檚 Bank & Trust is currently selling for \(44 a share.

a.If the tender offer is planned at a premium of 50 percent over market price, what will be the value offered per share for Ernie鈥檚 Bank & Trust?

b.Suppose before the offer is actually announced, the stock price of Ernie鈥檚 Bank & Trust goes to \)60 because of strong merger rumors. If you buy the stock at that price and the merger goes through (at the price computed in part a), what will be your percentage gain?

c.Because there is always the possibility that the merger could be called off after it is announced, you also want to consider your percentage loss if that happens. Assume you buy the stock at \(60 and it falls back to its original value after the merger cancellation, what will be your percentage loss?

d. If there is an 80 percent probability that the merger will go through when you buy the stock at \)60, and only a 20 percent chance that it will be called off, does this appear to be a good investment? Compute the expected value of the return on the investment.

J & J Enterprises is considering a cash acquisition of Patterson Steel Company for \(4,500,000. Patterson will provide the following pattern of cash inflows and synergistic benefits for the next 20 years. There is no tax loss carryforward.

Years 1鈥�5 6鈥�15 16鈥�20 Cash inflow (aftertax) ...................... \)490,000 \(650,000 \)850,000 Synergistic benefits (aftertax) ......... 45,000 65,000 75,000

The cost of capital for the acquiring firm is 12 percent. Compute the net present value. Should the merger be undertaken? (If you have difficulty with deferred time value of money problems, consult Chapter 9.)

How is goodwill now treated in a merger?

The Hollings Corporation is considering a two-step buyout of the Norton Corporation. The latter firm has 2.5 million shares outstanding and its stock price is currently \(40 per share. In the two-step buyout, Hollings will offer to buy 51 percent of Norton鈥檚 shares outstanding for \)62 per share in cash and the balance in a second offer of 840,000 convertible preferred stock shares. Each share of preferred stock would be valued at 40 percent over the current value of Norton鈥檚 common stock. Mr. Green, a newcomer to the management team at Hollings, suggests that only one offer for all Norton鈥檚 shares be made at $59.25 per share. Compare the total costs of the two alternatives. Which is better in terms of minimizing costs?
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