The Jeter Corporation is considering acquiring the A-Rod Corporation.

The data for the two companies are as follows:

A-Rod Corp. Jeter Corp.

Total earnings ......................................................... \(1,000,000 \)4,000,000

Number of shares of stock outstanding ................. 400,000 2,000,000

Earnings per share ................................................. \(2.50 \)2.00

Price-earnings ratio (P/E) ....................................... 12 15

Market price per share ........................................... \(30 \)30

a.The Jeter Corp. is going to give A-Rod Corp. a 60 percent premium over

A-Rod’s current market value. What price will it pay?

b.At the price computed in part a,what is the total market value of A-Rod

Corp.? (Use the number of A-Rod Corp. shares times price.)

c.At the price computed in part a,what is the P/E ratio Jeter Corp. is assigning

A-Rod Corp?

d.How many shares must Jeter Corp. issue to buy the A-Rod Corp. at the

total value computed in part b?(Keep in mind that Jeter Corp.’s price per

share is $30.)

e.Given the answer to part d,how many shares will Jeter Corp. have after the

merger?

f.Add together the total earnings of both corporations and divide by the

total shares computed in part e.What are the new postmerger earnings per

share?

g.Why has Jeter Corp.’s earnings per share gone down?

h.How can Jeter Corp. hope to overcome this dilution?

Step by step solution

01

 The price it will pay

$\begin{array}{rcl}\mathbf{Price}& \mathbf{=}& \mathbf{Market}\mathbf{}\mathbf{Price}\mathbf{+}\mathbf{60}\mathbf{\%}\mathbf{}\mathbf{of}\mathbf{}\mathbf{market}\mathbf{}\mathbf{price}\\ & \mathbf{=}& \mathbf{\$}\mathbf{30}\mathbf{+}\mathbf{\$}\mathbf{18}\\ & \mathbf{=}& \mathbf{\$}\mathbf{48}\end{array}$

02

Calculation of total market value

$\begin{array}{rcl}\mathbf{Total}\mathbf{}\mathbf{Market}\mathbf{}\mathbf{Value}& \mathbf{=}& \mathbf{Number}\mathbf{}\mathbf{of}\mathbf{}\mathbf{Shares}\mathbf{}\mathbf{Outstanding}\mathbf{\times }\mathbf{Price}\mathbf{}\mathbf{given}\mathbf{}\mathbf{by}\mathbf{}\mathbf{Jeter}\mathbf{}\mathbf{Corp}\mathbf{.}\\ & \mathbf{=}& \mathbf{400}\mathbf{,}\mathbf{000}\mathbf{\times }\mathbf{\$}\mathbf{48}\\ & \mathbf{=}& \mathbf{\$}\mathbf{19}\mathbf{,}\mathbf{200}\mathbf{,}\mathbf{000}\end{array}$

Hence, the total market value is $19,200,000.

03

Calculation of P/E ratio

$\begin{array}{rcl}\mathbf{P}\mathbf{/}\mathbf{E}\mathbf{}\mathbf{Ratio}& \mathbf{=}& \frac{\mathbf{Price}}{\mathbf{Earning}\mathbf{}\mathbf{Per}\mathbf{}\mathbf{Share}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{48}}{\mathbf{2}\mathbf{.}\mathbf{50}}\\ & \mathbf{=}& \mathbf{19}\mathbf{.}\mathbf{2}\end{array}$

04

  Number of shares Jeter corporation issue

$\begin{array}{rcl}\mathbf{No}\mathbf{.}\mathbf{}\mathbf{of}\mathbf{}\mathbf{Shares}& \mathbf{=}& \frac{\mathbf{Market}\mathbf{}\mathbf{Value}}{\mathbf{Current}\mathbf{}\mathbf{Market}\mathbf{}\mathbf{Price}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{19}\mathbf{,}\mathbf{200}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{48}}\\ & \mathbf{=}& \mathbf{400}\mathbf{,}\mathbf{000}\end{array}$

05

Number of shares Jeter Corporation have after merger

$\begin{array}{rcl}\mathbf{Number}\mathbf{}\mathbf{of}\mathbf{}\mathbf{Shares}& \mathbf{=}& \mathbf{Old}\mathbf{}\mathbf{number}\mathbf{}\mathbf{of}\mathbf{}\mathbf{shares}\mathbf{}\mathbf{+}\mathbf{New}\mathbf{}\mathbf{number}\mathbf{}\mathbf{of}\mathbf{}\mathbf{Shares}\\ & \mathbf{=}& \mathbf{2}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{40}\mathbf{,}\mathbf{000}\\ & \mathbf{=}& \mathbf{2}\mathbf{,}\mathbf{400}\mathbf{,}\mathbf{000}\end{array}$

06

New earning per share

$\begin{array}{rcl}\mathbf{Total}\mathbf{}\mathbf{Earning}\mathbf{}\mathbf{Post}\mathbf{}\mathbf{Merger}& \mathbf{=}& \mathbf{Earning}\mathbf{}\mathbf{of}\mathbf{}\mathbf{Jeter}\mathbf{}\mathbf{Corporation}\mathbf{+}\mathbf{Earning}\mathbf{}\mathbf{of}\mathbf{}\mathbf{A}\mathbf{-}\mathbf{Rod}\\ & \mathbf{=}& \mathbf{\$}\mathbf{4}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\mathbf{+}\mathbf{\$}\mathbf{1}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\\ & \mathbf{=}& \mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}\end{array}$

Now new earning per share is calculated,

$\begin{array}{rcl}\mathbf{Earning}\mathbf{}\mathbf{Per}\mathbf{}\mathbf{Share}& \mathbf{=}& \frac{\mathbf{Post}\mathbf{}\mathbf{Merger}\mathbf{}\mathbf{Earning}}{\mathbf{Number}\mathbf{}\mathbf{of}\mathbf{}\mathbf{shares}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{000}\mathbf{,}\mathbf{000}}{\mathbf{2}\mathbf{,}\mathbf{400}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{2}\mathbf{.}\mathbf{08}\end{array}$

07

Earning per share goes down

The earning per share of Jeter Corporation goes down because corporation purchased A-rod on higher per share value than Jeter corporation have.

08

Overcome form the dilution

The corporation overcome from this by increasing its market share and by increase its earning as the size of the corporation is increased.

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