Corporate Governance: Overstating Earnings. During the 1960s, many conglomerates were created by firms that were enjoying a high price/earnings ratio (P/E). These firms then used their highly valued stock to acquire other firms that had lower P/E ratios, usually in unrelated domestic industries. Conglomerates went out of fashion during the 1980s when they lost their high P/E ratios, thus making it more difficult to find other firms with lower P/E ratios to acquire. During the 1990s, the same acquisition strategy was possible for firms located in countries where high P/E ratios were common compared to firms in other countries where low P/E ratios were common. Consider the hypothetical firms the pharmaceutical industry shown in the table below. (Click on the icon to import the table into a spreadsheet.) Modern American wants to acquire ModoUnico. It offers 5,500,000 shares of Modern American, with a current market value of $210,000,000 and a 10% premium on ModoUnico's shares, for all of ModoUnico's shares. P/E ratio Company ModoUnico Modern American Number of shares 10,000,000 10,000,000 Market value per share $21.00 $42.00 Earnings $10,000,000 $10,000,000 21 EPS $1.00 $1.00 Total Market Value $210,000,000 $420,000,000 42 a. How many shares would Modern American have outstanding after the acquisition of ModoUnico? b. What would be the consolidated earnings of the combined Modern American and ModoUnico? c. Assuming the market continues to capitalize Modern American's earnings at a P/E ratio of 42, what would be the new market value of Modern American? d. What would be the new earnings per share of Modern American? e. What would be the new market value of a share of Modern American? f. How much would Modern American's stock price increase? g. A number of firms, especially in the United States, have had to lower their previously reported earnings due to accounting errors or fraud. Assume that Modern American had to lower its earnings to $5,000,000 from the previously reported $10,000,000 What might be its new market value prior to the acquisition? Could it still do the acquisition