Evaluation of potential acquisition: Martin & Sons has $4.2 million in net worki

Question

Evaluation of potential acquisition: Martin & Sons has $4.2 million in net working capital. The firm has total assets with a book value of $48.6 million and a market value of $53.4 million. They currently carry no debt on their balance sheet, sales are expected to be $45 million next year, and their tax rate is similar to ACME at 40%. Through a mixture of synergistic savings and increased market share this acquisition should add $2 million in net profit per year for the next 10 years. Acme Iron is considering buying the company for $60 million in cash. The acquisition will be recorded using the purchase accounting method. What is the amount of goodwill that Acme will record on its balance sheet as a result of this acquisition? How do you recommend the firm finance this transaction? Is there a danger that ACME could damage their finances to the point that bankruptcy is a potential? Concept Check: 5-factor model of the Altman Z-score (a for private manufacturing firms): Z-score = 0.717T1 + 0.847T2 + 3.107T3 + 0.42T4 + 0.998T5 where, T1 = Working Capital / Total Assets T2 = Retained Earnings / Total Assets T3 = Earnings Before Interest and Taxes / Total Assets T4 = Equity / Total Liabilities T5 = Sales / Total Assets Zones of Discrimination: • 1.23 or less – “Distress” Zone • from 1.23 to 2.9 – “Grey” Zone • 2.9 or more – “Safe” Zone Interpretation of Altman Z-Score The Z-Scores are helpful in predicting corporate defaults as well as an easy-to-calculate measure of control for financial distress status of companies in academic studies. A Z-Score above 2.6 (2.9) indicates a company to be healthy. Besides, such a company is also not likely to enter bankruptcy. However, Z-Scores ranging from 1.1-2.6 (1.23-2.9) are taken to lie in the grey area.

Explanation / Answer

1.

Purchase accounting method:

Goodwill = Purchase consideration – Net assets

                = $60 million - $53.4 million

                = $6.6 million

Note: Total asset includes working capital and in the absent of other information, Net asset equals to market value of asset.

2.

I recommend that the whole consideration should not be paid in cash rather issue debt or equity for the same which reduces liquidity risk.

3.

Yes, there is a liquidly problem which could damage their finances to the point that bankruptcy is a potential.

Related Questions

Navigate

• Browse (All)
• Browse E
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.