Cavuto Inc. is a private company, in the software business. The owner, who has her entire wealth
invested in the business, has come to you for some advice on a proposed acquisition of Soros Inc,
a private retail business, also owned by an undiversified individual. You have collected the
following information on the two companies:
• Cavuto reported after-tax operating income of $ 10 million last year on a book value of capital
of $ 50 million. The firm is in stable growth, growing 4% a year in perpetuity.
• Soros reported after-tax operating income of $ 5 million last year on a book value of capital of
$ 40 million. The firm is in stable growth as well, growing 4% a year in perpetuity.
Both firms are entirely equity funded. You have collected the following information on publicly
traded firms in the software and the retail businesses:
Business Unlevered Beta Correlation with the market
Software 1.20 30%
Retail 0.90 40%
The tax rate is 40%. The riskfree rate is 5% and the market risk premium is 4%.
a. Estimate the value of Cavuto as a stand-alone firm.
b. Estimate the value of Soros Inc. as a stand alone firm.
c. Estimate the value of synergy in the acquisition. The combined firm's equity will have a
correlation of 50% with the market and you can assume that there are no operating synergies in
this merger.