ABC Inc., a TV manufacturing company, is evaluating the possible acquisition of a mobile phone company

ABCs analysts project the following post-merger data for the mobile company.

1. The sales are estimated in units within the first 5 years as follows:

Year

2021

2022

2023

2024

2025

Sales in unit

150

250

270

330

200

Price per unit

$900 $1,000 $1,000 $800 $800

2. The total cost of good sold

increase 2% each year under the impact of inflation.

3. The selling and administrative expenses are $20,000 in year 1; it is also to be estimated to rise 2% each year.

4. Depreciation expense each year is $3,000 and interest expense each year is about $3,000 in average.

If the acquisition is made, it will be on December 31, 2020. All cash flows shown in the income statements are assumed to be at the end of the year. ABC currently has a capital structure of 30 percent debt, but it would increase to 45 percent if the acquisition were made. The mobile company, if independent, would pay taxes at 25 percent, but its income would be taxed at 30 percent if it were consolidated.

The mobile companys current market data are as follow: beta is 1.20, and its investment bankers think that its beta would rise after merger. We also have the risk-free rate is 4 percent, and the market return (remember that market return is not market risk premium) is 16 percent.

Each year, the company estimates that 30% of net income would be used to pay dividend. The firm has current ROE is 25%.

Requirements:

If ABC wants to take over the mobile company, what is the value of the mobile company that ABC is willing to pay for? Assuming that ABC needs to buy 35% share of the firm to become the largest shareholder and can takeover the control of that firm. Assuming that total number of stocks outstanding for this firm is 10,000.