LBO: Continuing Ownership Decreases Oldco is a privately owned company having 1,000 shares of common stock outstanding, 100% of which is owned by Ralph and Ruth Richy, the founders of the company. The Richys retired several years ago and are no longer active in the management of the business. In November 2006, upper management proposed a leveraged buyout to the Richys.

The Richys agreed to this, and management approached an independent investment firm that has strong relationships with lending institutions. In December 2006, a new corporation (Newco) was formed as a holding company to acquire all of the outstanding common stock of Oldco. Newco borrowed $350,000 from a lending institution, a loan secured by Oldco’s assets. On 12/31/06, Newco issued 1,000 shares of common stock as follows:

1. 350 shares to the investment firm for $35,000 cash.

2. 350 shares to upper management for $35,000 cash.

3. 300 shares to the Richys for $30,000 cash.

Also on that date, Newco paid the Richys $450,000 cash for the entire 1,000 shares of Oldco common stock they held.

Information concerning Oldco at 12/31/06 follows:

Book Value Current Value Assets . $500,000 $800,000 Liabilities . $300,000 $300,000 Stockholders' equity . 200,000 500,000

$500,000 $800,000 1. Prepare a conceptual analysis of the Investment in Oldco account by the major conceptual ele¬

ments (showing the extent to which Oldco’s assets would be revalued upward in consolidation and the amount to be reported for goodwill in consolidation).

2. Would your answer to requirement 1 be different if the transaction had been structured as fol¬
lows:

(a) Oldco borrowed $350,000 from the financial institution,

(b) Oldco paid the Richys a special dividend of $350,000 cash,

(c) the investment firm acquired 350 shares of Oldco com¬
mon stock directly from the Richys for $35,000 cash, and

(d) upper management acquired 350 shares of Oldco common stock directly from the Richys for $35,000 cash?
3. Would your answer to requirement 1 be different if the Richys had been issued only 100 shares of Newco common stock (with the remaining 900 shares having been issued to upper manage¬
ment and the investment firm for $90,000 in cash)?