Bootstrap Effect | Definition | Example

In this video, we will study definition of Bootstrap Effect along with its example.

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Bootstrap Effect or Bootstrap Earnings Effect refers to the acquirer firm's short - term earnings boost when it combines with the target company even though such a mixture has no economic advantage.

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Let’s take simple example of bootstrap earnings to understand it better.
Acquirer Target
Share Price $150.00 $60.00
Earnings Per Share(EPS) $4.00 $3.50
Price to Earnings(P/E) 34.3 26
Shares Outstanding 200,000.00 60,000.00
Profit After Tax $200,000.00 $150,000.00
Market Value of Equity $200,000.00 $300,000.00

As shown above, we will calculate the following according to the table:

1)of shares to be issued by the acquirer

Market value of Equity of Target / Share Price of Acquirer
= $2,000,000.0 / $150.0
= $13,333.3 shares

2)Post-merger EPS

= Total earnings of the Acquirer post-merger / Total number of shares of Acquirer post-merger
= ($200,000.0 + $150,000.0) / (200,000.0 + 13,333.3)
= 1.64

3)Post-merger P/E

Assuming market is efficient and hence pre and post-merger share price of Acquirer will remain same.

= Weighted average EPS of Acquirer + Weighted average EPS of Target
= ($200,000.0 / ($200,000.0 + $150,000.0)) x 34.3 + $150,000.0 / ($200,000.0 + $150,000.0)) x 26.0 = 30.7

4)Post-merger Price

Supposing that the market is not efficient, the pre- and post - merger share price will not be the same.

= Acquirer’s pre-merger P-E ratio x Acquirer’s post-merger EPS = 34.3 x 1.64= 56

which is higher than acquirer’s pre-merger share price due to bootstrap effect.

To know more about ????????? ??????, you can go to this ???? ????:-
https://www.wallstreetmojo.com/bootstrap-effect/

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