Jason Kidwell is considering whether to acquire a local toy manufacturing company, Toys ?n? Things Inc. The company?s annual income statements for three years are as follows:

Historical Incomes Statements for Toys 'n Thing, Inc. 2014 2013 2012 Revenues $2,243,155 $2,001,501 $2,115,002 Cost of goods sold (1,458,051) (1,300,976) (1,374,751) Gross profits 785,104 700,525 740,251 General and Administrative Expenses* (574,316) (550,150) (561,500) Net Operating Income $210,789 $150,375 $178,751

1. Jason has learned that small private companies such as this one typically sell for EBITDA multiples of three to four times. Depreciation expense equals $50,000 per year. What value would you recommend Jason put on the company?

2. The current owner of Toys?n? Things indicated to Jason that he would not take less than five times 2014 EBITDA to sell out. Jason decides that, based on what he knows about the company, the price could not be justified. However, upon further investigation, Jason learns that the owner?s wife is paid $100,000 a year for administrative services that Jason thinks could be done by a $50,000-per-year assistant. Moreover, the owner pays himself a salary of $250,000 per year to run the business, which Jason thinks is at least $50,000 too high based on the demands of the business. In addition, Jason thinks that, by outsourcing raw materials to Asia, he can reduce the firm?s cost of goods sold by 10%. After making adjustments for excessive salaries, what value should Jason place on the business? Can Jason justify the value the owner is placing on the business?

PROBLEM 8-6 Given Cost of goods sold/Revenues Fixed operating costs Variable operating costs/Revenues Depreciation expense Salary adjustments Annual outsourcing savings/Revenues Solution Legend 65% 350,000 10% 50,000 100,000 10% $ $ $ = Value given in problem = Formula/Calculation/Analysis required = Qualitative analysis or Short answer required = Goal Seek or Solver cell = Crystal Ball Input = Crystal Ball Output Historical Incomes Statements for Toys 'n Thing, Inc. 2014 2013 Revenues Cost of goods sold Gross profits General and Administrative Expenses* (550,150) Net Operating Income $ 2012 2,243,155 $ 2,001,501 $ 2,115,002 (1,458,051) (1,300,976) (1,374,751) 785,104 700,525 740,251 (574,316) $ 210,789 $ 150,375 $ (561,500) 178,751 *Includes depreciation expense of $50,000 per year. Solution a. 2014 Net Operating Income Plus: Depreciation expense 2012 $ 210,789 $ 50,000 150,375 $ 178,751 50,000 50,000 $ EBITDA Valuation Years 2013 260,789 $ 200,375 $ 228,751 EBITDA Multiple 2014 2013 2012 2014 2013 2012 3 4 Average b. EBITDA Plus: Salary adjustments Plus: Outsourcing savings $ 260,789 $ 100,000 200,375 $ 228,751 100,000 100,000 Adjusted EBITDA Valuation EBITDA Multiple 3 4 Average Asking price = 5 x 2014 Unadjusted EBITDA Estimated value after adjustments 2014 2013 2012