Question 71. Jenny’s Day Care is considering a merger with Lionel’s Diaper Man

71. Jenny’s Day Care is considering a merger with Lionel’s Diaper Manufacturers. Jenny’s total operating costs of producing services are $350,000 for sales volume of $1.4 million. Lionel’s total operating costs of producing services are $300,000 for a sales volume of $1.3 million. For a sales volume of $2.7 million, calculate the reduction in production costs the merged firms need to experience such that the total average cost (TAC) for the merged firms is equal to 20%.
A. $129,000
B. $110,000
C. $540,000
D. $103,000

72. Stubborn Motors, Inc., is asking a price of $10.5 million to be purchased by Rubber Tire Motor Corp. Rubber Tire currently has total cash flows of $6 million which are growing at 1 percent annually. Managers estimate that because of synergies the merged firm’s cash flows will increase by an additional 4 percent for the first four years following the merger. After the first four years, incremental cash flows will grow at a rate of 3 percent annually. The WACC for the merged firms is 9.75 percent. Calculate the NPV of the merger. Should Rubber Tire Motor Corporation agree to acquire Stubborn Motors for the asking price of $10.5 million?
A. Agree to the merger because the NPV = -$2.32 million.
B. Agree to the merger because the NPV = $1.03 million.
C. Disagree to the merger because the NPV = -$0.96 million.
D. Agree to the merger because the NPV = $2.48 million.

73. Suppose a linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt ratio and the profit margin. Based on past bankruptcy experience, the linear probability model is estimated as:
PD_i = .28 (debt ratio) + .51 (profit margin)
You know a particular firm has a debt ratio of 46 percent and a probability of default of 18 percent. Calculate the firm’s profit margin.
A. 11.93%
B. 13.27%
C. 10.04%
D. 12.81%

74. A linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the equity multiplier and the total asset turnover ratio. Based on past bankruptcy experience, the linear probability model is estimated as:
PD_i = .02 (equity multiplier) + .06 (total asset turnover)
A firm has an equity multiplier of 1.1 times and a probability of default of 6.2 percent. Calculate the firm’s total asset turnover ratio.
A. 0.53 times
B. 0.67 times
C. 1.2 times
D. 0.84 times

75. A survey of a local market has provided the following average cost data: Johnson Construction Corp. (JCC) has assets of $3 million and an average cost of 22 percent. Anderson Architects (AA) has assets of $4 million and an average cost of 31 percent. Cole Home Builders (CHB) has assets of $5 million and an average cost of 28 percent. For each firm, average costs are measured as a proportion of assets. JCC is planning to acquire AA and CHB with the expectation of reducing overall average costs by eliminating the duplication of services. If JCC plans to reduce operating costs by $500,000 after the merger, what will the average cost be for the new firm?
A. 23.33%
B. 23.87%
C. 24.12%
D. 22.50%

76. The managers of State Bank have been approached by City Bank about a possible merger. State Bank is asking a price of $171.78 million to be purchased by City Bank. City Bank currently has total cash flows of $30 million that are growing at 2 percent annually. Managers of State Bank estimate that because of synergies the merged firm’s cash flows will increase by an additional 6 percent for the first four years following the merger. After the first four years, managers of State Bank have estimated that incremental cash flows will grow at a rate of 3 percent. The WACC for the merged firms is 11 percent. Managers of City Bank agree that cash flows should grow at an additional 6 percent for the first four years, but are unsure of the long-term growth rate in incremental cash flows estimated by City Bank. Calculate the minimum growth rate needed after the first four years such that City Bank would see this merger as a positive NPV project.
A. 7.26%
B. 7.73%
C. 8.01%
D. 8.29%

77. A linear probability model you have developed finds there are two factors influencing the past bankruptcy behavior of firms: the debt-to-equity ratio and the sales-to-total assets ratio. Based on past bankruptcy experience, the linear probability model is estimated as:

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