invretB.pdf-MEASURING INVESTMENT RETURNS II. INVESTMENT INTERACTIONS,
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37
Case 2: Synergy in a merger..
Aswath Damodaran
37
We valued Harman Interna
Ional for an acquisiIon by Tata Motors and
esImated a value of $ 2,476 million for the operaIng assets and $ 2,678
million for the equity in the firm, concluding that it would not be a value
creaIng acquisiIon at its current market capitalizaIon of $5,248 million.
In es
ImaIng this value, though, we treated Harman
Interna
Ional as a
standalone firm.
Assume that Tata Motors foresees potenIal synergies in the combinaIon
of the two firms, primarily from using its using Harman’s highend audio
technology (speakers, tuners) as opIonal upgrades for customers buying
new Tata Motors cars in India. To value this synergy, let us assume the
following:
It will take Tata Motors approximately 3 years to adapt Harman’s products to Tata
Motors cars.
Tata Motors will be able to generate Rs 10 billion in a
Rertax operaIng income in
year 4 from selling Harman audio upgrades to its Indian customers, growing at a
rate of 4% a year aRer that in perpetuity (but only in India).
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EsImaIng the cost of capital to use in valuing
synergy..
Aswath Damodaran
38
Business risk
: The perceived synergies flow from opIonal addons
in auto sales. We will begin with the levered beta of 1.10, that we
esImated for Tata Motors in chapter 4, in esImaIng the cost of
equity.
Geographic risk
: The second is that the synergies are expected to
come from India; consequently, we will add the country risk
premium of 3.60% for India, es
Imated in chapter 4 (for Tata
Motors) to the mature market premium of 5.5%.
Debt raIo
: Finally, we will assume that the expansion will be
enIrely in
India, with Tata Motors maintain its exis
Ing debt to
capital raIo of 29.28% and its current rupee cost of debt of 9.6%
and its marginal tax rate of 32.45%.
Cost of equity in Rupees = 6.57% + 1.10 (5.5%+3.60%) = 16.59%
Cost of debt in Rupees = 9.6% (1.3245) = 6.50%
Cost of capital in Rupees = 16.59% (1.2928) + 6.50% (.2928) = 13.63%
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EsImaIng the value of synergy… and what Tata
can pay for Harman
Aswath Damodaran
39
Value of synergy
Year 3
=
Value of synergy today =
ConverIng the synergy value into dollar terms at the prevailing
exchange rate of Rs 60/$, we can esImate a dollar value for the
synergy from the potenIal acquisiIon:
Value of synergy in US $ = Rs 70,753/60 = $ 1,179 million
Adding this value to the intrinsic value of $2,678 million that we
esImated for Harman’s equity in chapter 5, we get a total value for
the equity of $3,857 million.
Value of Harman = $2,678 million + $1,179 million = $3,857 million
Since Harman’s equity trades at $5,248 million, the acquisiIon sIll
does not make sense, even with the synergy incorporated into
value.
Expected Cash Flow
Year 4
(Cost of Capital - g)
=
10,000
(.1363-.04)
=
Rs 103,814 million
Value of Synergy
year 3
(1+Cost of Capital)
3
=
103,814
(1.1363)
3
=
Rs 70,753 million