Advanced Accounting Chapter 1 Extra Problems

Large Corporation

Large Corporation is considering a merger with Local Company, one of its suppliers. In order to determine a fair offering price, Large has accumulated the following information:

Local Company Estimated

Book Values Market Value

Total identifiable assets $ 250,000 $ 300,000

Total liabilities 150,000 150,000

Owners equity $ 100,000

In the last five years, Local has earned a total of $100,000. Large expects that Locals future earnings will be close to its average past earnings for at least the next five years. Normal earnings for similar firms during the past five years have averaged 10 percent return on net assets. However, Large wants a minimum rate of return of 12 percent. Estimate a reasonable offering price for Large to offer Local based on excess earnings. (Hint-Use 6 steps of excess earnings approach on page 16)

Eden Company

Eden Company is trying to decide whether to acquire Bloomington Inc. The following balance sheet for Bloomington Inc. provides information about book values. Estimated market values are also listed, based upon Eden Company's appraisals.

	Bloomington Inc. Book Values	Bloomington Inc. Market Values
Current Assets	$ 450,000	$ 450,000
Property, Plant & Equipment (net)	1,140,000	1,300,000
Total Assets	$1,590,000	$1,750,000
Total Liabilities	$700,000	$700,000
Common Stock, $10 par value	280,000
Retained Earnings	610,000
Total Liabilities and Equities	$1,590,000

Eden Company expects that Bloomington will earn approximately $290,000 per year in net income over the next five years. This income is higher than the 14% annual return on tangible assets considered to be the industry "norm."

Compute an estimation of goodwill and a possible offering price based on the information above that Eden might be willing to pay, under each of the following additional assumptions, (Hint-Use 6 steps of excess earnings approach on page 16)

(1) Eden is willing to pay for excess earnings for an expected life of 4 years (undiscounted).

(2) Eden is willing to pay for excess earnings for an expected life of 4 years, which should be

capitalized at the industry normal rate of return.

(3) Excess earnings are expected to last indefinitely, but Eden demands a higher rate of return of

20% because of the risk involved.

MATCHING

Match the terms in the list to the definitions below. Each term may be used only once.

A. Poison pill G External expansion M. Statutory merger

B. White knight H. Internal expansion N. Statutory consolidation

C. Leveraged buyout I. Horizontal integration O. Stock acquisition

D. Friendly combination J. Vertical integration P. Goodwill

E. Hostile combination K. Conglomerate merger

F. Comprehensive income L. Economic entity concept

_____ 1. A company combines with another, unrelated company in order to diversify

_____ 2. A company grows by retaining all its profits in the business

_____ 3. The excess of the purchase price of a company over the fair value of stock acquired

_____ 4. A takeover defense which includes issuing stock rights to existing shareholders so they may

buy more stock at a price lower than market share

_____ 5. A combination where two existing companies join to make a third company

_____ 6. All revenue, expenses, gains and losses are included

_____ 7. A combination where a company buys one or more of its competitors

_____ 8. Purchase of a company by its managers and third-party investors, often using debt

_____ 9. A combination where the boards of two companies mutually agree to the acquisition

_____10. Encouraging a third firm to buy a company that is the target of an unfriendly combination

_____11. A means of increasing the size of a company by acquiring another company

_____12. Emphasizes control of the whole by a single management

_____13. The purchase of one company by another where the two companies continue to be separate legal entities

_____14. A combination where the management of the target company resists the acquisition

_____15. A combination where a company buys its suppliers and/or its customers

_____16. A combination where one company buys and absorbs another company