Conglomerate Inc. just acquired another firm called Motor Inc., a supplier of engine parts. Up until yesterday, Conglomerate Inc. had just one division, which was operating in the telecommunications industry (division T). Yet, today, the acquisition of Motor Inc. yields a second, new division (called division M). Motor Inc. historically had a debt to equity ratio (D/E) of 2 that is maintained through continuous rebalancing. Motor Inc. was publicly traded. Based on past return data from Motor Inc. you determined its debt beta and equity beta (equity beta 2; debt beta 0.5). After acquiring Motor Inc., Conglomerate Inc. immediately retired all of Motor Inc.'s debt. Further, Conglomerate Inc.'s old division (division T) never had any debt. Thus, Conglomerate Inc. as a whole is now completely unlevered (D/E-0). After these transactions, Conglomerate Inc. has no excess cash and is traded at $8 a share with 1,000 shares outstanding. Both divisions are expected to yield FCFs as provided in the table below:
The risk-free rate is 1%. The market risk premium is 5%.
