1-1

EXERCISE 1-1 Estimating Goodwill and Potential Offering Price 107 Plantation Homes Company is considering the acquisition of Condominiums, Inc. early in 2008. 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 $15,000,000 and lia- bilities of $8,800,000. The assets include office equipment with a fair value approximating book value, buildings with a fair value 30% higher than book value, and land with a fair value 75% higher than book value. The remaining lives of the assets are deemed to be ap- proximately equal to those used by Condominiums, Inc. Chapter 1 Introduction to Business Combinations and the Conceptual Framework B. Condominiums, Inc.'s pretax incomes for the years 2005 through 2007 were $1,200,000. $1,500,000, and $950,000, 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: Depreciation on buildings (each year) 960,000 Depreciation on equipment (each year) 50,000 Extraordinary loss (year 2007) 300,000 Sales commissions (each year) 250,000 C. The normal rate of return on net assets for the industry is 15%. Required: A. Assume further that Plantation Homes feels that it must eam a 25% return on its invest- ment and that goodwill is determined by capitalizing excess earnings. Based on these as sumptions, calculate a reasonable offering price for Condominiums, Inc. Indicate how much of the price consists of goodwill. Ignore tax effects. B. Assume that Plantation Homes feels that it must earn a 15% return on its investment, but that average excess earnings are to be capitalized for three years only. Based on these as- sumptions, calculate a reasonable offering price for Condominiums, Inc. Indicate how much of the price consists of goodwill. Ignore tax effects