The appropriate discount rate for the incremental cash flows is 12 percent. Eastman is trying to

QUESTION

Cash versus Stock Payment
Eastman Corp. is analyzing the possible acquisition of Kodiak Company. Both firms have no debt. Eastman believes the acquisition will increase its total after tax annual cash flows by $2.6 million indefinitely. The current market value of Kodiak is $102 million, and that of Eastman is $140 million. The appropriate discount rate for the incremental cash flows is 12 percent. Eastman is trying to decide whether it should offer 40 percent of its stock or $110 million in cash to Kodiaks shareholders.
a. What is the cost of each alternative?
b. What is the NPV of each alternative?
c. Which alternative should Eastman choose?
(a_) Offering 40% of its stock will have cost of 40% of 140 million i.e 56 Million Paying cash will involve cost of $ 110 million (b) Po will be 2.6 million/ 0.12 21.66 million

emental inflows NPV in first case =- 34.333 NPV in 2nd case =88.34 (c ) Option 1 is better as it has lesser negative NPV

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