91Ó°ÊÓ

Hooper Chemical Company, a major chemical firm that uses such raw materials as carbon and petroleum as part of its production process, is examining a plastics firm to add to its operations. Before the acquisition, the normal expected outcomes for the firm were as follows:

Outcomes (\( millions) Probability

Recession .............................. \)20 0.30

Normal economy ................... 40 0.40

Strong economy .................... 60 0.30

After the acquisition, the expected outcomes for the firm would be:

Outcomes (\( millions) Probability

Recession .............................. \) 10 0.3

Normal economy ................... 40 0.4

Strong economy .................... 80 0.3

a. Compute the expected value, standard deviation, and coefficient of variation before the acquisition.

b. After the acquisition, these values are as follows:

Expected value .............................................. 43.0 (\( millions)

Standard deviation ........................................ 27.2 (\) millions)

Coefficient of variation ................................... 0.633

Comment on whether this acquisition appears desirable to you.

c. Do you think the firm’s stock price is likely to go up as a result of this acquisition?

d. If the firm were interested in reducing its risk exposure, which of the following three industries would you advise it to consider for an acquisition?

Briefly comment on your answer.

(1) Chemical company

(2) Oil company

(3) Computer company

Step by step solution

01

a. Compute expected value

$\begin{array}{c}\mathrm{Expected}\mathrm{value}=\mathrm{Respective}\mathrm{sales}×\mathrm{Respective}\mathrm{probability}\\ \mathbf{=}(\mathbf{20}\mathbf{×}\mathbf{0}\mathbf{.}\mathbf{30})\mathbf{+}(\mathbf{40}\mathbf{×}\mathbf{0}\mathbf{.}\mathbf{40})\mathbf{+}(\mathbf{60}\mathbf{×}\mathbf{0}\mathbf{.}\mathbf{30})\\ =6+16+18\\ =40\mathrm{units}\end{array}$

02

a. Computation of total probability

Probability	Sales	Probability*(sales-Expected sales)2	Total
0.30	20	0.30*(20-40)2	120
0.40	40	0.40*(40-40)2	0
0.30	60	0.30*(60-40)2	120
			240

03

a. Computation of Standard deviation ( approx )

$\begin{array}{c}\mathbf{Standard}\mathbf{}\mathbf{deviation}\mathbf{=}\sqrt{\begin{array}{l}\mathbf{Probability}\mathbf{×}{(\mathbf{sales}\mathbf{-}\mathbf{Expected}\mathbf{}\mathbf{sales})}^2\end{array}}\\ \mathbf{=}\sqrt{240}\\ \mathbf{=}\mathbf{15}\mathbf{.}\mathbf{4919}\mathbf{units}\end{array}$

04

a. Computation of co-efficient of variation ( approx.)

$\begin{array}{c}\mathbf{Coefficient}\mathbf{}\mathbf{of}\mathbf{}\mathbf{variation}\mathbf{=}\frac{\mathrm{Standard}\mathrm{deviation}}{\mathrm{Expected}\mathrm{sales}}\\ \mathbf{=}\frac{\mathbf{15}\mathbf{.}\mathbf{4919}}{40}\\ \mathbf{=}\mathbf{0}\mathbf{.}\mathbf{3873}\end{array}$

05

b. Comment on whether this acquisition appears desirable

Standard deviation decides market instability or the spread of asset prices from its average price. The coefficient of variation permits investors to decide how much unpredictability or risk, is accepted in comparison to the sum of return anticipated from investments. At the point when prices move fiercely, standard deviation and coefficient of variation is high, it states that an investment will be risky. Thus, the acquisition is not desirable.

06

c. Result of acquisition on stock price

A high-risk investment is one for which there is either an enormous percentage chance of loss of capital or under-execution — or a somewhat high possibility of a staggering misfortune. At the point when one organization acquires another, the stock price of the acquiring company tends to dip for a brief time, while the stock price of the target company tends to general spike.

07

d. Acquisition of company

The organization shall acquire chemical company if the organisation is interested in reducing its risk exposure. As the company itself is a chemical company it is familiar with the operating activity and the business will be expanded on a large scale.

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