A company estimates that to build a new company it would cost $300 million in present value terms or they could purchase an existing company. The book value of the company's they are looking at purchasing has assets of $200 million and its EBIT is $40 million. Similar companies are selling around 10 times current earnings. The companies have debt-to-asset ratios averaging 30 percent with an average interest rate of 12 percent.
Using a tax rate of 25 percent, estimate the minimum price the owner of the firm should consider for its sale and the maximum price the company interested in the purchase should pay?
Debt to asset ratio = 30%
Interest rate = 12%
Total assets = $200 million
Book value of debt = 30%*200=60 million
Interest = 60*12%=7.2 million
EBIT = 40 ...
You will find the answer to this puzzling question inside...