CIMA Exam CIMAPRA19-F03-1 Topic 2 Question 31 Discussion

A large, quoted company that is all-equity financed is planning to acquire a smaller unquoted company that is also all-equity financed.

The acquiring company's directors are using the dividend valuation model to value the target company before making an offer.

Relevant data for the target company:

* Dividends paid in the last financial year $2 million

* Book value of net assets $15 million

* Shares in issue 1 million

The acquiring company's cost of capital is 10%.

Its directors believe they can improve the target company's performance in the long term.

They estimate there will be no growth in the first year of the acquisition butfrom year 2 onwards there will bea 4% growth each year in perpetuity.

What is the maximum price the acquiring company should offer for each of the shares in the target company?