ACCT3013 Financial Statement Analysis Mergers and acquisitions
Lenovo acquired all assets (without assuming debts) of IBM's PC business in December 2004 at a price of $1.25 billion. The transaction was completed in friendly terms in that Lenovo agreed to retain all employees and that IBM agreed to continue its contribution throughout the post-acquisition transition period.
As of the time of the deal, an analyst from an investment bank independent of the transaction made the following assumptions regarding IBM's PC business after the acquisition.
- Sales revenue is expected to grow at 2% in 2005
- Gross margin (cost of goods sold over sales) will be 12% in2005
- Operating expenses will account for 7% of sales
- Residual abnormal earnings are expected to grow at 4% per annum after 2005
Analysts also conjecture that the acquisition can bring an additional 1.5% sales growth rate in perpetuity and further reduce 12% of total operating expenses each year.
The exact financial statements of IBM's PC division before the acquisition was not available, but analysts generally agreed on the following estimates:
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Estimated key financial figures of IBM's PC division as of December 2004 (in $ million)
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Revenue [Dec 2003 - Dec 2004]
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10,081.69
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Working capital
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849.62
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Long-term operating assets
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3,379.32
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Earnings
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(117.20)
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Required -
Suppose that the PC business has a beta of 1.1, and the risk-free rate and market risk premium were 4.5% and 7% respectively. Using the above analyst forecasts and estimates, compute the "fair price" for IBM's PC business at the time of acquisition. Did Lenovo overpay? Please show all the calculation and process, and explain whether Lenovo overpaid or not.