AB Corporation Limited., which is investigating the possible acquisition of BB Conglomeration Ltd. for diversification purposes, has asked you to advise the firm on the basis of the following financial information:
BB Conglomeration Limited.
Summary Statement of Financial Position (Balance Sheet) as at 30 September 2016:
The following additional financial information is also provided:
i. It is estimated that the investments have a market value of $675 000, and that the stock could be sold for $750 000. The other assets have values as stated in the balance sheet;
ii. All of the investments and plant valued at $225 000 would not be needed by AB Corporation Limited.;
iii. The investments have produced an annual income of $45 000 per annum for the last five years, and are expected to continue to do so;
iv. AB Corporation Ltd. would repay the debentures at par, immediately after acquisition;
v. AB Corporation Limited. requires a return on capital of 10 per cent. Calculate the maximum price which AB Corporation Limited. should be prepared to pay for BB Conglomeration Limited under each of the following bases:
a) Break-up value;
b) Discounted cash flow, assuming that the operating cash flows to be discounted are as follows:($000) 450; 600; 450; 570.
Time (in years) 2017, 2018, 2019, 2020 onwards.
Present value factors at 10% are as given below:
Year 2017- 0.9090.
Year 2018 -0.8260.
Year 2019 -0.7510
Year 2020 -0.6830.