Question 13.7: You are analyzing GE’s potential acquisition of Nike. GE pla...
You are analyzing GE’s potential acquisition of Nike. GE plans to offer $100 billion as the purchase price for Nike, and it will need to issue additional debt and equity to finance such a large acquisition. You estimate that the issuance costs will be $800 million and will be paid as soon as the transaction closes. You estimate the incremental free cash flows from the acquisition will be $3.3 billion in the first year and will grow at 3% per year thereafter. What is the NPV of the proposed acquisition?
Plan
We know from Section 13.5 that the correct cost of capital for this acquisition is Nike’s WACC. We can value the incremental free cash flows as a growing perpetuity:
PV=\frac{FCF_1}{r-g}where
FCF_1=\$3.3 billionr= Nike’s WACC =0.06 (from Figure 13.3)
g=0.03The NPV of the transaction, including the costly external financing, is the present value of this growing perpetuity net of both the purchase cost and the transaction costs of using external financing.
Execute
Noting that $800 million is $0.8 billion,
NPV=-\$100-\$0.8+\frac{\$3.3}{0.06-0.03} =\$9.2 billionEvaluate
It is not necessary to try to adjust Nike’s WACC for the issuance costs of debt and equity. Instead, we can subtract the issuance costs from the NPV of the acquisition to confirm that the acquisition remains a positive-NPV project even if it must be financed externally.
