Thomas Corp. acquired Dye Technologies in 2014. Thomas included the following in
ID: 2777774 • Letter: T
Question
Thomas Corp. acquired Dye Technologies in 2014. Thomas included the following information in its 2014 annual report: We acquired Dye Technologies, Inc. on August 3, 2014 by means of a merger of one of our wholly owned subsidiary such that Dye became a wholly owned subsidiary of Thomas. The total purchase price for Dye was $21, 370 million. In performing our preliminary purchase price allocation, we considered, among other factors, our intention for future use of acquired assets, analyses of historical financial performance and estimates of future performance of Dye's products. The fair values of intangible assets were calculated using an income approach and estimates and assumptions provided by both Dye and Thomas management. The rates utilized to discount net cash flows to their present values were based on our weighted average cost of capital and ranged from 8% to 16%. The following table sets forth the preliminary components of intangible assets associated with the Dye acquisition: Are the intangible assets purchased in the Dye Technologies acquisition, reported on the Thomas consolidated balance sheet at the book value or at the fair value on the date of the acquisition? Explain. Explain in plain English, how Thomas valued the intangible assets at the time of the acquisition. Your explanation should explicitly include the role played by the average cost of capital. How are the tangible and intangible assets accounted for subsequent to the acquisition? What will be the value of the acquired intangibles at the end of fiscal 2015? Assume no amortization of these assets was taken during 2014. State any assumptions that you make. As part of the acquisition, Thomas also recorded $5,940 million of goodwill. Explain how Thomas arrived at this amount for goodwill. If the amount allocated to software support agreements was decreased to $848 million, what effect would this have on the allocation of the purchase price to the remaining acquired assets? What effect would this have on current and future earnings? You should quantify the effect in dollar terms.Explanation / Answer
Answer (a)
The intangible assets purchased in acquisition of Dye Technologies and reported on the Thomas Cook Consolidated Balance Sheet at fair value on the date of acquisition as based on this the acquirer purchased the intangible assets from the firm acquired as per IAS 38.
Answer (b)
Thomas Cook has taken estimates and assumption from Dye Technologies based on their experience about the income from intangible assets. For example, how much income can be expected from customer relationships based on the average revenue per customer, length of relationship (to check for repeat orders or additional orders). After validating the estimates and assumptions, Thomas Cook arrived at the net annual income from particular type of intangible assets and the period for which the income flows are expected. These flows are discounted at the weighted average cost of capital (ranged from 8% to 16%) of Thomas Cook to arrive at the present value of the flows. The total amount of present value of income flows is taken as fair value of the particular intangible asset at the time of acquisition.
Answer (c)
Tangible and Intangible assets are carried at the cost (purchase price based on fair value) after acquisition. Intangible assets are carried at cost (fair value) or at restated value where revaluation is done based on the estimated impairments if any and further reduced by the periodical amortizations accounting for the useful life of the intangible asset
Total intangible assets at fair value carried to Balance Sheet at acquisition in 2014 = $ 7498
Assuming no amortizations were made in 2014 and subsequent amortizations were made on straight line basis over the useful life of the particular asset. The Amortization amount and the balance outstanding at the end of fiscal 2015 is as follows
Asset
Useful life
Value at end of fiscal 2014
Amortization amount
= Value /useful life
Value at end of fiscal 2015
Software support agreements
8 years
$2,408
$ 301
$ 2,107
Developed technology
6 years
$ 2,070
$ 45
$ 1,725
Core technology
7 years
$ 2,037
$ 91
$ 1,746
Customer relationships
8 years
$ 888
$ 111
$ 777
Trade Marks & Others
5 years
$ 95
$ 19
$ 76
Total intangible assets
$7,498
$ 1,067
$6,431
Value of acquired assets at the end of fiscal 2015 = $ 6,431
d. The acquiring firm needs to arrive at the fair value of tangible assets, intangible assets, non-controlling interest (based on the current market price if there is active market for the security) and the value of considerations paid like cash, stock, debt, a contingent earning etc., reduced by the fair value of liabilities incurred by the seller.
Goodwill will be calculated based on the following formula
Goodwill = Consideration paid + fair value of non-controlling interest - Identifiable assets acquired +Identifiable liabilities acquired.
After doing these valuations and calculations, Thomas Cook must have arrived at the value of Goodwill at $ 5,940 million.
Answer (e)
If the amount allocated to software support agreements is decreased to $ 848 million that is fair value will now be 35.22% of the earlier valuation. Assuming that the other intangible assets are also reduced by a similar percentage the value of intangible assets would be
Asset
Useful life
Value at acquisition
Amortization amount
= Value /useful life
Value at end of fiscal 2015
Software support agreements
8 years
$848
$ 106
$ 742
Developed technology
6 years
$ 729
$ 122
$ 607
Core technology
7 years
$ 717
$ 102
$ 615
Customer relationships
8 years
$ 313
$ 39
$ 274
Trade Marks & Others
5 years
$ 33
$ 7
$ 26
Total intangible assets
$2,640
$ 376
$2,264
Based amortization amounts on earlier values the earnings would be reduced by $ 1,067 Million
Based on amortization amounts on revised values of intangible assets the earnings would be reduced by $ 376 Million
The earnings will increase by $ 1067 Million - $ 376 Million = $ 691 Million based on revised values of intangible assets.
The earnings will increase by (($ 1067 Million - $ 376 Million) / $ 1067 Million) * 100 = $691/$1067*100 = 64.76%
Asset
Useful life
Value at end of fiscal 2014
Amortization amount
= Value /useful life
Value at end of fiscal 2015
Software support agreements
8 years
$2,408
$ 301
$ 2,107
Developed technology
6 years
$ 2,070
$ 45
$ 1,725
Core technology
7 years
$ 2,037
$ 91
$ 1,746
Customer relationships
8 years
$ 888
$ 111
$ 777
Trade Marks & Others
5 years
$ 95
$ 19
$ 76
Total intangible assets
$7,498
$ 1,067
$6,431
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