Question

Exercise 1-1 Plantation Homes Company is considering the acquisition of Condominiums, Inc. early in 2015. To assess the amount it might be willing to pay, Plantation Homes makes the following computations and assumptions. A. Condominiums, Inc. has identifiable assets with a total fair value of $14,723,000 and liabilities of $8,793,000. The assets include office equipment with a fair value approximating book value, buildings with a fair value 27% higher than book value, and land with a fair value 71% higher than book value. The remaining lives of the assets are deemed to be approximately equal to those used by Condominiums, Inc. Condominiums, Inc.'s pretax incomes for the years 2012 through 2014 were $1,240,000, $1,548,000, and $934,000, respectively. Plantation Homes believes that an average of these earnings represents a fair estimate of annual earnings for the indefinite future. However, it may need to consider adjustments to the following items included in pretax earnings: B. Depreciation on buildings (each year) Depreciation on equipment (each year) Extraordinary loss (year 2014) Sales commissions (each year) 944,000 47,000 292,000 256,000 C. The normal rate of return on net assets for the industry is 14%. (a) Assume further that Plantation Homes feels that it must earn a 25% return on its investment and that goodwill is determined by capitalizing excess earnings. Based on these assumptions, calculate a reasonable offering price for Condominiums, Inc. Indicate how much of the price consists of goodwill. Ignore tax effects. Goodwill Offering price $

Answer 1

Solution: Calculation of Goodwill and offering Price: Net assets=Fair value of assets-Fair value of liabilities=14723000-8793000 Earnings in the industry=5930000*14% $ $ 59,30,000 8,30,200 2012 12,40,000 $ $ 2013 15,48,000 $ $ 2014 9,34,000 2,92,000 Particulars Pre-tax income Add: Extra ordinary loss Less:Additional depreciation on building (944000*27%) Adjusted earnings $ $ -2,54,880$ -2,54,880 $ 9,85,120 $ 12,93,120 $ -2,54,880 9,71,120 Excess earnings: Average of adjusted earnings Less: Normal earnings in the industry Excess earnings $ $ $ 10,83,120 8,30,200 2,52,920 Goodwill = 252920/26% $ 9,72,769 Offering price=Net assets+goodwill=830200+972769 $ 18,02,969 Kindly Comment down for any clarifications/ queries and please upvote.