Question

Macho Inc. has recently become interested in acquiring a South American plant to handle many of its production functions in that market. One possible candidate is De Fuentes SA, a closely held corporation, whose owners have decided to sell their business if a proper settlement can be obtained. De Fuentes’s statement of financial position is as follows: Current assets $ 125,000 Fair value-net income investments 55,000 Plant assets (net) 405,000 Total assets $ 585,000 Current liabilities $ 85,000 Long-term debt 105,000 Share capital 225,000 Retained earnings 170,000 Total equities $ $585,000 Macho has hired Yardon Appraisal Corporation to determine the proper price to pay for De Fuentes SA. The appraisal firm finds that the fair value - net income investments have a fair value of $75,000 and that inventory is understated by $40,000. All other assets and liabilities have book values that approximate their fair values. An examination of the company’s income for the last four years indicates that the net income has steadily increased. In 2017, the company had a net operating income of $110,000, and this income should increase by 15% each year over the next four years. Macho believes that a normal return in this type of business is 15% on net assets. The asset investment in the South American plant is expected to stay the same for the next four years. (b) De Fuentes SA is willing to sell the business for $1 million. What advice should Yardon Appraisal give Macho in regard to this offer?

Answer 1