Effects of a Stock Exchange Consider the following premerger information about fi rm A and fi rm B:

Firm A Firm B Total earnings $900 $600 Shares outstanding 550 220 Price per share $ 40 $ 15 Assume that fi rm A acquires fi rm B via an exchange of stock at a price of $20 for each share of B’s stock. Both A and B have no debt outstanding.

a. What will the earnings per share, EPS, of fi rm A be after the merger?

b. What will fi rm A’s price per share be after the merger if the market incorrectly analyzes this reported earnings growth (that is, the price–earnings ratio does not change)?

c. What will the price–earnings ratio of the postmerger fi rm be if the market correctly analyzes the transaction?

d. If there are no synergy gains, what will the share price of A be after the merger? What will the price–earnings ratio be? What does your answer for the share price tell you about the amount A bid for B? Was it too high? Too low? Explain. LO.1