Exam 20: Mergers and Acquisitions and Financial Distress

Calculation of Altman's Z-Score: Suppose that the financial ratios of a potential borrowing firm took the following values: X₁ = Net working capital/Total assets = .15, X₂ = Retained earnings/Total assets = .10, X₃ = Earnings before interest and taxes/Total assets = .15, X₄ = Market value of equity/Book value of long-term debt = .40, X₅ = Sales/Total assets ratio = 0.8. Calculate the Altman's Z-score for this firm.

Which of the following is the most extreme type of financial distress for a business?

Calculation of Average Costs with Economies of Scope Dee's Dry Cleaning is considering a merger with Larry's Laundry Supply Stores. Dee's total operating costs of producing services are $600,000 for sales volume of $4 million. Larry's total operating costs of producing services are $200,000 for a sales volume (J_P) of $1 million. For a sales volume of $5 million, calculate the reduction in production costs the merged firms need to experience such that the total average cost (TAC) for the merged firms is equal to 10%.

A linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the equity multiplier and the total asset turnover ratio. Based on past bankruptcy experience, the linear probability model is estimated as: PD_i = .02 (equity multiplier) + .06 (total asset turnover) A firm has an equity multiplier of 1.1 times and a probability of default of 6.2 percent. Calculate the firm's total asset turnover ratio.

Valuation of a Merger You own stock in Carpet City, Inc., which has just made a bid of $165 million to purchase Tile Corporation. The two firms currently have cumulative total cash flows of $25 million which are growing at 2 percent annually. Managers estimate that because of synergies the merged firm's cash flows will increase by an additional 4 percent for the first three years following the merger. After the first three years cash flows will grow at a rate of 3 percent. The merged firms are expected to have a beta = 1.75, the risk-free rate is 5.5 percent, and the market risk premium is currently 7.5 percent. Calculate the NPV of the merger. Will you vote in favor of the merger?

Which of the following is NOT an example of a revenue enhancement that is a result of a merger?

List the order for the distribution of the funds from asset liquidation in a bankruptcy.

Which of the following is a combination of a firm with a supplier or distributor?

Calculation of Bankruptcy Probability Suppose a linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt ratio and the profit margin. Based on past bankruptcy experience, the linear probability model is estimated as: PD_i = .20 (debt ratio) + .50 (profit margin) You know a particular firm has a debt ratio of 60 percent and a probability of default of 15 percent. Calculate the firm's profit margin.

If Walmart acquires Target, this would be an example of a ____________.

Valuation of a Merger Department Stores, Inc., is asking a price of $25 million to be purchased by Discount Stores Corp. The two firms currently have cumulative total cash flows of $2 million which are growing at 2.5 percent annually. Managers estimate that because of synergies the merged firm's cash flows will increase by an additional 5 percent for the first four years following the merger. After the first four years cash flows will grow at a rate of 4.5 percent. The WACC for the merged firms is 13 percent. Calculate the NPV of the merger. Should Discount Stores Corporation agree to acquire Department Stores, Inc., for the asking price of $25 million?

Calculation of Altman's Z-Score: Suppose that the financial ratios of a potential borrowing firm took the following values: X₁ = Net working capital/Total assets = .25, X₂ = Retained earnings/Total assets = .30, X₃ = Earnings before interest and taxes/Total assets = .35, X₄ = Market value of equity/Book value of long-term debt = .50, X₅ = Sales/Total assets ratio = 0.9. Calculate the Altman's Z-score for this firm.

__________________ refers to a firm that is still allowed to continue to operate while the creditors' claims are settled using a collective procedure.

Which of the following is a formal bankruptcy proceeding involving the reorganization of the corporation with some provision for repayment to the firm's creditors?

Calculating the Probability of Bankruptcy A linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt-to-equity ratio and the sales-to-total assets ratio. Based on past bankruptcy experience, the linear probability model is estimated as: PD_i = .45 (debt/equity) + .01 (sales/total assets) A firm you are thinking of lending to has a sales-to-assets ratio of 1.9 and its expected probability of default, or bankruptcy, is estimated to be 7 percent. Calculate the firm's debt ratio.

Which of the following is the termination of the firm as a going concern in which assets are sold and any proceeds go to pay off the firm's creditors?

Calculation of Bankruptcy Probability Suppose a linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt ratio and the profit margin. Based on past bankruptcy experience, the linear probability model is estimated as: PD_i = .20 (debt ratio) + .15 (profit margin) A firm you are thinking of lending to has a debt ratio of 55 percent and a profit margin of 10 percent. Calculate the firm's expected probability of default, or bankruptcy.

Calculation of Average Costs with Economies of Scope Jewelry Designs is considering a merger with Beads Supply Stores. Jewelry's total operating costs of producing services are $300,000 for sales volume of $2 million. Beads' total operating costs of producing services are $125,000 for a sales volume (J_P) of $2.25 million. For a sales volume of $4.25 million, calculate the reduction in production costs the merged firms need to experience such that the total average cost (TAC) for the merged firms is equal to 8%.

All of the following are an advantage of prepackaged bankruptcy except __________________.

A linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt-to-equity ratio and the sales-to-total assets ratio. Based on past bankruptcy experience, the linear probability model is estimated as: PDi = .52 (debt/equity) + .01 (sales/total assets) A firm you are thinking of lending to has a sales-to-assets ratio of 2.0 and its expected probability of default, or bankruptcy, is estimated to be 12 percent. Calculate the firm's debt ratio.