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Bent's Communication Inc., a large telecommunication company, is evaluating the possible acquisition of Phoenix Cable Company, a regional cable company. Bent's analysis projects the following

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Bent's Communication Inc., a large telecommunication company, is evaluating the possible acquisition of Phoenix Cable Company, a regional cable company. Bent's analysis projects the following post-merger data for Phoenix ( in thousands of dollars): 2022 2023 2024 2025 Net Sales 400 $500 $600 $700 Sell. & Adm.exp. 40 50 60 65 Interest 18 21 24 27 Tax rate after merger 40% COGS as a percent of sales 60% Beta after merger 1.5 Market risk premium 4% Risk-free rate 6% Terminal growth rate of cash flow Available to Bent's 5% If the acquisition is made, it will occur on January 1, 2022. All cash flows shown in the income statements are assumed to occur at the end of the year. Phoenix currently has a capital structure of 40% debt, but Bent's would increase that to 50% if the acquisition were made. Phoenix, if independent would pay taxes at 20%, but its income would be taxed at 40% if it were consolidated Phoenix's current market-determined beta is 1.40, and its investment bankers think that its beta would rise to 1.50 If the debt ratio were increased to 50%. The cost of goods sold is expected to be 60% of sales, but it could vary somewhat. The risk-free rate is 6% and the market risk premium is 4%. a) What is the appropriate discount rate for valuing the acquisition? (2 marks) b) What is the terminal value? What is the value of Phoenix to Bent's? (18 marks) c). Why is interest expense deducted in merger cash flow statements, whereas it is not normally deducted in a capital budgeting cash flow analysis

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