GrowFast Currently Sells at a Price-Earnings Multiple of 10

question 66

Essay

GrowFast currently sells at a price-earnings multiple of 10. The firm has 2 million shares outstanding, and sells at a price per share of $40. Steady & Stable has a P/E multiple of 8, has 1 million shares outstanding, and sells at a price per share of $20.
a. If GrowFast acquires the other firm by exchanging one of its shares for every two of Steady & Stable's, what will be the earnings per share of the merged firm?
b. If the merger has no economic gain, what will be the P/E of the new firm? What will happen to GrowFast's price per share? Will any of the shareholders experience a change in wealth?
c. What will happen to GrowFast's price per share if the market does not realize that the P/E ratio of the merged firm ought to differ from GrowFast's premerger ratio? Who gains and by how much in this case?

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