Margate Group plc is a large, long-established company whose primary interests are in transport and distribution within the United Kingdom. It is considering a bid to acquire Hastings plc, a company also in the transport and distribution industry. Hasting

Margate Group plc is a large, long-established company whose primary interests are in transport and distribution within the United Kingdom. It is considering a bid to acquire Hastings plc, a company also in the transport and distribution industry. Hastings plc, however, has a strong operations base in Europe as well as in the UK. Both companies are listed on a recognised stock exchange. They both have a wide share ownership including many institutional investors.

Hastings plc has recently fought off a bid from a company based in the United States of America and has made a public statement that it will defend itself against any future bids. The company has recently won a fiercely contested five-year contract to undertake transport and distribution services for a major supermarket group. Margate Group plc also tendered for this contract. Press comment suggests this contract will allow Hastings plc's earnings to grow at 10% a year for at least the next five years. However, some industry experts believe Hastings plc tendered a price that was so low that the contract could result in very little profit, or even losses.

If the acquisition were to succeed, it would create the largest company of its kind in the UK. A concern is that this would attract the interest of the competition authorities. However, as both companies have recently restructured their operations, redundancies are likely to be few and concentrated mainly in central administration.

Financial Statements

Key financial information for the two companies for the latest financial year is given below. All figures are in £ million unless otherwise stated.

STATEMENTS OF PROFIT OR LOSS

FOR THE YEAR TO 31 AUGUST 20X1

Margate Group plc     Hastings plc

£m                   £m

Revenue                                                                                  2,763               1,850

Operating costs                                                                                   1,950               1,380

Operating profit                                                                      813                  470

Net interest                                                                             125                  85

Profit before tax                                                                      688                  385

Tax                                                                                          185                  85

Earnings                                                                                  503                  300

Dividends declared                                                                 201                  135

Retained profit for the year                                                    302                  165

Earnings per shares (pence)                                                     47.90               35.29

EPS for year to 31 August 20X0 (pence)                                           34.85               29.50

STATEMENTS OF FINANCIAL POSITION AT 31 AUGUST 20X1

Margate Group plc     Hastings plc   

£m                   £m

Non-current assets (net book value)                                       3,250               2,580

Current assets

Inventory                                                                                125                  175

Receivables                                                                             550                  425

450                  45

Payables: due within 1 year

Bank overdraft                                                                        0                      420

Trade payables                                                                        755                  365

Payables: due after 1 year

Debentures                                                                              1,450               950

Tax                                                                                          150                  40

Net assets                                                                                2,020               1,450

Capital and reserves

Share capital (£1 each)                                                            1,050               850

Share premium                                                                        220                  150

Retained earnings                                                                   750                  450

Total shareholders’ funds                                                       2,020               1,450

Note. Margate Group plc's debenture is 8%, repayable 20X5. Hastings plc's is 9%, repayable 20X4.

Share price information (prices in pence)

·                     The average P/E for the industry is currently estimated as 13.

·                     The return on the market is currently estimated as 12%, the risk-free rate as 6%. These rates  are expected to remain constant for the next 12 months and are post-tax.

·           The average debt ratio for the industry (long-term debt as proportion of total long-term funding) is 30% based on book values.

·           Economic forecasts provided by Margate Group plc's financial advisors expect inflation and interest rates to remain at their current levels for the foreseeable future. Inflation is currently 2% a year.

Terms of the proposed bid

Margate Group plc's directors are planning to offer a share exchange to Hastings plc's shareholders.

Required

(a)       Calculate and discuss briefly three key ratios for both companies that are relevant to the evaluation of the proposed acquisition.

(b)       Calculate a range of possible values that Margate Group plc could place on Hastings plc, using both P/E basis and the dividend growth model.

Accompany your calculations by brief comments or explanations. Where necessary, explain any assumptions you have made      

(c)       Assume you are the Financial Manager with Margate Group plc. Write a report to the directors of the group that evaluates the proposed acquisition.

You should use the figures you have calculated in answer to parts (a) and (b) to support your recommendations/advice where relevant. If you have not been able to do the calculations for parts

(a)       and (b), you should make, and state, appropriate assumptions.

Your report should include the following topics.

(i)        Recommendation to the directors of a bid price and offer terms, assuming a share-for-share exchange.

(ii)       Advice on a strategy for making the offer to Hastings plc to minimise the likelihood of outright rejection by the Hastings plc board, and a discussion of the other risks involved in making the bid.

(iii)     Discussion of the strategic and financial advantages that might arise from the acquisition by Margate Group plc of Hastings plc.

Support your discussion with calculations of the post-acquisition value of the combined group and how the estimated gains are likely to be split between the shareholders of Margate Group plc and Hastings plc.    

Professional marks will be awarded for the structure and presentation of the report.