Exam 20: Mergers and Acquisitions and Financial Distress

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 = 0.20 (debt ratio)+ 0.15 (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.

George's Dry Cleaning is considering a merger with Weezzie's Laundry Supply Stores.George's total operating costs of producing services are $790,000 for sales volume (S_G)of $4.7 million.Weezzie's total operating costs of producing services are $202,000 for a sales volume (S_W)of $2.3 million.For a sales volume of $7 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 12 percent.

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 = 0.20 (debt ratio)+ 0.50 (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.

All of the following are problems associated with using the Z-score model to make credit risk evaluations EXCEPT:

Which of the following is a combination of firms that sell different,but somewhat related,products?

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

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 = 0.28 (debt ratio)+ 0.51 (profit margin) You know a particular firm has a debt ratio of 46 percent and a probability of default of 18 percent.Calculate the firm's profit margin.

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 = 0.15 (debt ratio)+ 0.05 (profit margin) A firm you are thinking of lending to has a debt ratio of 50 percent and a profit margin of 8 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 percent.

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 profit margin.Based on past bankruptcy experience,the linear probability model is estimated as: PD_i = 0.013 (debt/equity)+ 0.78 (profit margin) A firm you are thinking of lending to has a debt-to-equity ratio of 112 percent and its expected probability of default,or bankruptcy,is estimated to be 15.35 percent.If sales are $1.55 million,calculate the firm's net income.

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 = 0.02 (equity multiplier)+ 0.06 (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 Tim's Fix It Shop,Inc.,is asking a price of $50 million to be purchased by Taylor's Tire Hut Corp.The two firms currently have cumulative total cash flows of $4 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 5 percent for the first four years following the merger.After the first four years cash flows will grow at a rate of 3 percent.The WACC for the merged firms is 12 percent.Calculate the NPV of the merger.Should Taylor's Tire Hut Corporation agree to acquire Tim's Fix It Shop,Inc.,for the asking price of $50 million?

Calculation of Average Costs with Economies of Scope Building Supplies is considering a merger with Tools and More.Building's total operating costs of producing services are $4 million for a sales volume of $20 million.Tools' total operating costs of producing services are $1 million for a sales volume of $5 million.Suppose that synergies in the production process result in a cost of production for the merged firms totaling $4.8 million with total sales remaining unchanged.Calculate the total average cost for the merged firm.

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

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 = 0.45 (debt/equity)+ 0.01 (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.

Valuation of a Merger Windows N Such,Inc.,is asking a price of $195 million to be purchased by Curtain Rods Corp.The two firms currently have cumulative total cash flows of $15 million which are growing at 1 percent annually.Managers estimate that because of synergies the merged firm's cash flows will increase by an additional 3 percent for the first four years following the merger.After the first four years cash flows will grow at a rate of 2 percent.The WACC for the merged firms is 10 percent.Calculate the NPV of the merger.Should Curtain Rods Corporation agree to acquire Windows N Such,Inc.,for the asking price of $195 million?

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 = 0.23 (debt ratio)+ 0.08 (profit margin) A firm you are thinking of lending to has a debt ratio of 60 percent and a profit margin of 12 percent.Calculate the firm's expected probability of default,or bankruptcy.

Which of the following is NOT one of the sources of value enhancing synergy in a merger?

Which of the following is defined as a merged firm's advantage over smaller firms if cuts associated with the merger lower the firm's operating costs of production?

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 profit margin.Based on past bankruptcy experience,the linear probability model is estimated as: PD_i = 0.01 (debt/equity)+ 0.76 (profit margin) A firm you are thinking of lending to has a debt-to-equity ratio of 121 percent and its expected probability of default,or bankruptcy,is estimated to be 8.125 percent.If sales are $1 million,calculate the firm's net income.