Use the following information to answer the question(s)below.
Rearden Metal has earnings per share of $2.It has 10 million shares outstanding and is trading at $20 per share.Rearden Metal is thinking of buying Associated Steel,which has earnings per share of $1.25,4 million shares outstanding,and a price per share of $15.Rearden Metal will pay for Associated Steel by issuing new shares.There are no expected synergies from the transaction.
-If Rearden offers an exchange ratio such that,at current pre-announcement share prices for both firms,the offer represents a 20% premium to buy Associated Steel,then the actual premium Rearden will pay will be closest to:
A)14.7%.
B)18.0%.
C)20.0%.
D)22.4%.

Question

Quizplus · Accepted Answer

First, we need to calculate the market value of Associated Steel:
Market value of Associated Steel = number of shares outstanding x price per share = 4 million x $15 = $60 million
Next, we need to calculate the exchange ratio needed to offer a 20% premium:
Premium = (Offer price - Current price) / Current price
20% = (Offer price - $15) / $15
Offer price = $18 per share
Exchange ratio = Offer price / Rearden Metal's current share price = $18 / $20 = 0.9
Finally, we can calculate the actual premium Rearden Metal will pay:
Actual premium = (Rearden's offer price / Exchange ratio - Associated Steel's current price) / Associated Steel's current price
Actual premium = (($18 / 0.9) - $15) / $15 = 14.7%
Therefore, the answer is A) 14.7%.

Use the Following Information to Answer the Question(s)below