Exchange ratios in a merger with stochastic capital reserves: fair valuation and embedded options
Abstract
Purpose
The purpose of this paper is to analyze how exchange ratios in mergers can be assessed when the companies economic capital valuation is carried out in a stochastic framework with financial assets and minimum guarantees.
Design/methodology/approach
The paper is a theoretical one. Its main objective is to present a quantitative model for exchange ratios accounting, introducing a stochastic pricing model in the presence of stochastic cash‐flows and representing contractual embedded real option such as minimum guarantees.
Findings
The paper presents a financial model to evaluate the differences in exchange ratios induced by stochastic capital reserves in the merging companies.
Research limitations/implications
Stochastic cash‐flows in the economic capital of the merging companies set up a stochastic capital reserve which represents an additional value and could induce important differences in exchange ratios.
Practical implications
The model is fully applicable, also in the presence of embedded real options such as minimum guarantees, but requires the volatility of the underlying.
Originality/value
The paper should be useful under both a managerial and a theoretical use in order to evaluate stochastic exchange ratios.
Keywords
Citation
Giacomello, B. (2008), "Exchange ratios in a merger with stochastic capital reserves: fair valuation and embedded options", Managerial Finance, Vol. 34 No. 4, pp. 239-251. https://doi.org/10.1108/03074350810849279
Publisher
:Emerald Group Publishing Limited
Copyright © 2008, Emerald Group Publishing Limited