STRATEGIC FINANCIAL MANAGEMENT
Bidder Ltd ("Bidder"), a company listed on the FTSE/JSE Securities Exchange SA, has cash balances of R24 million which are currently invested in short-term money market deposits. The cash is intended to be used primarily for strategic acquisitions, and the company has formed an acquisition committee with a mandate to identify possible acquisition targets. The committee has suggested the purchase of Target Ltd ("Target"), a company in an unrelated industry that is listed on the AltX of the JSE. Although Target is listed, approximately 50% of its shares are still owned by three directors. These directors have stated that they might be prepared to recommend the sale of Target and they consider that its shares are worth R23 million in total. Summarised financial data (on an historical cost basis): \begin{tabular}{|c|c|} \hline & Target Ltd \\ \cline { 2 } & R '000 \\ \hline Current share price (most recent trade data) & 370 cents \\ \hline Earnings yield (based on current share price) & 19.2% \\ \hline Average dividend growth during the last five years & 8% p.a. \\ \hline Unlevered beta coefficient & 1.72 \\ \hline Levered beta coefficient & 1.92 \\ \hline \end{tabular} The current risk-free rate of return is 8% per annum and the current market return is 14% per annum. The current rate of inflation is 4% per annum and is expected to remain at approximately this level in the foreseeable future. In case of no merger or acquisition: - It is expected that Target's post-tax operating cash flow will grow by 4% above expected inflation for 5 years, where after it would increase by inflation only. - Target should maintain a constant post-tax operating cash flow dividend-cover. These are projected dividends in line with the expected growth and inflation. - Target has a target debt: equity ratio of 0.18:1. - Target has a marginal tax rate of 27%. 6.1. Based on available information, calculate the current value of a 100% equity shareholding in Target, based upon: (i) Market capitalisation. (ii) A dividend valuation model. 6.2. Calculate WACC for Target. (4) 6.3. Should Bidder decide to acquire Target, briefly discuss the factors that should influence whether Bidder Ltd uses its cash balances, rather than shares or debt, to make the payment for Target. Bidder Ltd ("Bidder"), a company listed on the FTSE/JSE Securities Exchange SA, has cash balances of R24 million which are currently invested in short-term money market deposits. The cash is intended to be used primarily for strategic acquisitions, and the company has formed an acquisition committee with a mandate to identify possible acquisition targets. The committee has suggested the purchase of Target Ltd ("Target"), a company in an unrelated industry that is listed on the AltX of the JSE. Although Target is listed, approximately 50% of its shares are still owned by three directors. These directors have stated that they might be prepared to recommend the sale of Target and they consider that its shares are worth R23 million in total. Summarised financial data (on an historical cost basis): \begin{tabular}{|c|c|} \hline & Target Ltd \\ \cline { 2 } & R '000 \\ \hline Current share price (most recent trade data) & 370 cents \\ \hline Earnings yield (based on current share price) & 19.2% \\ \hline Average dividend growth during the last five years & 8% p.a. \\ \hline Unlevered beta coefficient & 1.72 \\ \hline Levered beta coefficient & 1.92 \\ \hline \end{tabular} The current risk-free rate of return is 8% per annum and the current market return is 14% per annum. The current rate of inflation is 4% per annum and is expected to remain at approximately this level in the foreseeable future. In case of no merger or acquisition: - It is expected that Target's post-tax operating cash flow will grow by 4% above expected inflation for 5 years, where after it would increase by inflation only. - Target should maintain a constant post-tax operating cash flow dividend-cover. These are projected dividends in line with the expected growth and inflation. - Target has a target debt: equity ratio of 0.18:1. - Target has a marginal tax rate of 27%. 6.1. Based on available information, calculate the current value of a 100% equity shareholding in Target, based upon: (i) Market capitalisation. (ii) A dividend valuation model. 6.2. Calculate WACC for Target. (4) 6.3. Should Bidder decide to acquire Target, briefly discuss the factors that should influence whether Bidder Ltd uses its cash balances, rather than shares or debt, to make the payment for Target
