Gabriel Aaron Dionne Week 1 homework hom ework assignment 4/11/2013 Chapter 1: Exercise 1-1, 1-2, and 1-3 Chapter 2: Exercises 2-3 and 2-9; Problems 2-2 and 2-6 EXERCISE 1-1
Part A
Normall earnings Norma earnings for simila similarr firms = ($15,000,0 ($15,000,000 00 - $8,800,000 $8,800,000)) x 15% = $930,0 $930,000 00 Expected earnings of target: Pretax income of Condominiums, Inc., 2008 $1,200,000 Subtract: Additional depreciation on building ($960,000 30%) Targ Ta rget et’s ’s ad adjus juste ted d ea earn rnin ings gs,, 20 2008 08 912, 91 2,00 000 0
(288,000)
Pretax income of Condominiums, Inc., 2009 $1,500,000 Subtract: Additional depreciation on building (288,000) Targ Ta rget et’s ’s ad adjus juste ted d ea earn rnin ings gs,, 20 2009 09 1,212 1,2 12,0 ,000 00 Pretax income of Condominiums, Inc., 2010 $950,000 Add: Ad d: Ex Extr trao aord rdin inar ary y lo loss ss 300, 30 0,00 000 0 Subtract: Additional depreciation on building (288,000) Targ Ta rget et’s ’s ad adjus juste ted d ea earn rnin ings gs,, 20 2010 10 962, 96 2,00 000 0 Target Tar get’s ’s thr three ee yea yearr tot total al adj adjust usted ed ear earnin nings gs 3,086, 3,0 86,000 000 Target’s three year average adjusted earnings ($3,086,000 3)
1,028,667
Excess earnings of target = $1,028,667 - $930,000 = $98,667 per year Present value of excess earnings (perpetuity) at 25%: 25%: = $394,668 (Estimated Goodwill) Implied offering price = $15,000,000 – $8,800,000 + $394,668 = $6,594,668.
Part B
Excess Exce ss earning earningss of targe targett (same (same as in Part Part A) = $98,667 $98,667 Present value of excess earnings (ordinary annuity) for three years at 15%: $98,667 2.28323 = $225,279 Implied offering price = $15,000,000 – $8,800,000 + $225,279 = $6,425,279.
Requirement 1: Total net cash earnings for 5 years Less: Extraordinary gains Add: Nonrecurring cash losses Five-year cash earnings Period/years covered Annual Cash Earnings PVF of Ordinary Annuity (n=5, i=15%) a. PV of Cash Cash Flow Flowss (Imp (Impli lied ed Valu Value) e) / Offe Offerr Pric Pricee
Expected purchase price (implied value of Beta) Beta's Identifiable assets Beta's Liabilities
$ $
850,000 (67,000) 48,000 831,000 5 166,200 3.35216 557, 557,12 129 9 557,129 750,000 320,000
Beta's Net Assets at fair market value: b. Goodwill Requirement 2: Actual purchase price Fair value of Beta's net assets Goodwill recorded
$
$
430,000 127,129
625,000 430,000 195,000
EXERCISE 1-3
Part A Normal earnings for similar firms = $1,000,000 x 12% = $120,000 Excess earnings = $150,000 – $120,000 = $30,000 (1)
Goodwill based on five years excess earnings undiscounted. Goodwill = ($30,000)(5 years) = $150,000
(2)
Goodwill based on five years discounted excess earnings Goodwill = ($30,000)(3.6048) = $108,144 (present value of an annuity factor for n=5, I=12% is 3.6048)
(3)
Goodwill based on a perpetuity Goodwill = ($30,000)/.20 = $150,000
Part B The second alternative is the strongest theoretically if five years is a reasonable representation of the excess earnings duration. It considers the time value of money. Alternative three also considers the time value of money but fails to assess a duration period for the excess earnings. Alternative one fails to account for the time value of money. Interestingly, alternatives one and three yield the same goodwill estimation and it might be noted that the assumption of an infinite life is not as absurd as it might sound since the present value becomes quite small beyond some horizon. Part C Goodwill = [Cost less (fair value of assets less the fair value of liabilities)], Or, Cost less fair value of net assets Goodwill = ($800,000 – ($1,000,000 - $400,000)) = $200,000
Exercise 2-3: Pretzel Company acquired the assets (except for cash) and assumed the liabilities of Salt Company on January 2, 2005. As compensation, Pretzel Company gave 30,000 shares of its common stock, 15,000 shares of its 10% preferred stock, and cash of $50,000 to the stockholders of Salt Company. On the acquisition date, Pretzel Company stock had the following characteristics: Pretzel Company Stock Par Value Fair Value Common $ 10 $ 25 Preferred 100 100
Immediately prior to the acquisition, Salt Company's balance sheet reported the following book values and fair values: SALT COMPANY Balance Sheet January 2, 2005 Book Value Fair Value Cash $ 165,000 $ 165,000 Accounts receivable (net of $11,000 allowance) 220,000 198,000 Inventory - LIFO cost 275,000 330,000 Land 396,000 550,000 Buildings and equipment (net) 1,144,000 1,144,000 Total assets $ 2,200,000 $ 2,387,000
Current liabilities $ 275,000 $ 275,000 Bonds Payable, 10% 450,000 495,000 Common stock, $5 par value 770,000 Other contributed capital 396,000 Retained earnings 219,000 Total liabilities and stockholders' equity $ 2,110,000
Required: Prepare the journal entry on the books of Pretzel Company to record the acquisiti on of the assets and assumption of the liabilities of Salt Company. Step 1: Calculation of fair value of net assets acquired of Salt company Accounts receivables Inventory Land Buildings and equipment (net) Fair value of gross assets Less: Liabilities Current liabilities Bonds payable Fair value of net assets Calculation of goodwill, if any Acquisition price: 30,000 common shares @ $25 fair value 15,000 preferred shares @ $100 fair value Cash payment Total purchase price Less: Fair value of net assets of Salt Co. Goodwill
$198,000 $330,000 $550,000 $1,144,000 $2,222,000 ($275,000) ($495,000) $1,452,000
$750,000 $1,500,000 $50,000 $2,300,000 $1,452,000 $848,000
Journal entry Date
Account titles
Debit
Credit
January 2, 2005
Accounts receivable (198000+11000) $209,000 Inventory $330,000 Land $550,000 Buildings & equipment (net) $1,144,000 Goodwill $848,000 Allowance for doubtful debts Current liabilities Bonds payable Common stock (30000 x $10 par) Additional paid in capital - Common (30000 x (25-10)) Preferred stock (15000 x $100 par) Cash
Problem 2-2
Cash Receivables Inventories Plant and Equipment (net) ($3,840,000 + $720,000) Goodwill Total Assets
$680,000 720,000 2,240,000 4,560,000 120,000 $8,320,000
Liabilities Common Stock, $16 par ($3,440,000 + (.50 × $800,000)) Other Contributed Capital ($400,000 + $800,000) Retained Earnings Total Equities
1,520,000 3,840,000 1,200,000 1,760,000 $8,320,000
Entries on Petrello Company’s books would be:
Cash Receivables Inventory Plant and Equipment Goodwill * Liabilities Common Stock (25,000 × $16) Other Contributed Capital ($48 - $16) × 25,000
200,000 240,000 240,000 720,000 120,000 320,000 400,000 800,000
Problem 2-9
Case A Cost (Purchase Price) Less: Fair Value of Net Assets Goodwill
$130,000 120,000 $ 10,000
Case B Cost (Purchase Price)
$110,000
$11,000 $275,000 $495,000 $300,000 $450,000 $1,500,000 $50,000
Less: Fair Value of Net Assets Goodwill
90,000 $ 20,000
Case C Cost (Purchase Price) Less: Fair Value of Net Assets Gain
$15,000 20,000 ($ 5,000)
Goodwill Case A Case B Case C
$10,000 20,000 0
Assets Current Assets
Long-Lived Assets
$20,000 30,000 20,000
$130,000 80,000 40,000
Liabilities $30,000 20,000 40,000
Retained Earnings (Gain) 0 0 5,000
Exercise 2-6
The amount of the contingency is $500,000 (10,000 shares at $50 per share) Part A
Part B
Goodwill Paid-in-Capital for Contingent Consideration
500,000
Paid-in-Capital for Contingent Consideration Common Stock ($10 par) Paid-In-Capital in Excess of Par
500,000
Platz Company does not adjust the original amount recorded as equity.
500,000
100,000 400,000
