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ACCA Strategic Professional · Advanced Financial Management · Valuation for acquisitions and mergers

Gamma Co (cost of equity 10%) plans to buy Delta Co, which has expected free cash flows to the firm of $12m next year, growing at 3% a year in perpetuity, discounted at a WACC of 9%. Integration will add synergies of $2m a year in perpetuity from year 1, with no growth, and the synergies carry the same 9% rate. What is the value of Delta including synergies?

Delta is worth about $222.2m including synergies. Standalone value is 12 divided by (9% less 3%), giving $200m, and the non-growing synergy of $2m a year at 9% adds $22.2m.

  1. A$222.2mCorrect
  2. B$200.0m
  3. C$233.3m
  4. D$172.0m

Explanation

Standalone value = 12 / (0.09 - 0.03) = $200.0m. Synergy value = 2 / 0.09 = $22.2m. Total = $222.2m. Using growth on synergies would overstate it, and using the cost of equity of 10% would be the wrong rate for firm cash flows.

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