Richfield, Inc. has identifiable assets with a total fair value of $6,000,000 and liabilities of $3,700,000. The assets include office equipment with a fair value approximating book value, buildings with a fair value 25% higher than book value, and land with a fair value 50% higher than book value. The remaining lives of the assets are deemed to be approximately equal to those used by Richfield, Inc. B. Richfield, Inc.'s pretax incomes for the years 2014 through 2016 were $470,000, $570,000, and $370,000, respectively. Hopkins 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 for the following items included in pretax earnings: Depreciation on Buildings (each year) Depreciation on Equipment (each year) Extraordinary Loss (year 2016) Salary Expense (each year) 380,000 30,000 130,000 170,000 C. The normal rate of return on net assets for the industry is 15%. Required: A. Assume that Hopkins feels that it must earn a 20% return on its investment, and that goodwill is determined by capitalizing excess earnings. Based on these assumptions, calculate a reasonable offering price for Richfield, Inc. Indicate how much of the price consists of goodwill. B. Assume that Hopkins feels that it must earn a 15% return on its investment, but that average excess earnings are to be capitalized for five years only. Based on these assumptions, calculate a reasonable offering price for Richfield, Inc. Indicate how much of the price consists of goodwill.
Richfield, Inc. has identifiable assets with a total fair value of $6,000,000 and liabilities of $3,700,000. The assets include office equipment with a fair value approximating book value, buildings with a fair value 25% higher than book value, and land with a fair value 50% higher than book value. The remaining lives of the assets are deemed to be approximately equal to those used by Richfield, Inc. B. Richfield, Inc.'s pretax incomes for the years 2014 through 2016 were $470,000, $570,000, and $370,000, respectively. Hopkins 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 for the following items included in pretax earnings: Depreciation on Buildings (each year) Depreciation on Equipment (each year) Extraordinary Loss (year 2016) Salary Expense (each year) 380,000 30,000 130,000 170,000 C. The normal rate of return on net assets for the industry is 15%. Required: A. Assume that Hopkins feels that it must earn a 20% return on its investment, and that goodwill is determined by capitalizing excess earnings. Based on these assumptions, calculate a reasonable offering price for Richfield, Inc. Indicate how much of the price consists of goodwill. B. Assume that Hopkins feels that it must earn a 15% return on its investment, but that average excess earnings are to be capitalized for five years only. Based on these assumptions, calculate a reasonable offering price for Richfield, Inc. Indicate how much of the price consists of goodwill.
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
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A22
Transcribed Image Text:Richfield, Inc. has identifiable assets with a total fair value of $6,000,000 and liabilities
of $3,700,000. The assets include office equipment with a fair value approximating
book value, buildings with a fair value 25% higher than book value, and land with a fair
value 50% higher than book value. The remaining lives of the assets are deemed to be
approximately equal to those used by Richfield, Inc.
B. Richfield, Inc.'s pretax incomes for the years 2014 through 2016 were $470,000,
$570,000, and $370,000, respectively. Hopkins 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 for the following items included in pretax
earnings:
Depreciation on Buildings (each year)
Depreciation on Equipment (each year)
Extraordinary Loss (year 2016)
Salary Expense (each year)
380,000
30,000
130,000
170,000
C. The normal rate of return on net assets for the industry is 15%.
Required:
A. Assume that Hopkins feels that it must earn a 20% return on its investment, and
that goodwill is determined by capitalizing excess earnings. Based on these
assumptions, calculate a reasonable offering price for Richfield, Inc. Indicate
how much of the price consists of goodwill.
B. Assume that Hopkins feels that it must earn a 15% return on its investment, but that
average excess earnings are to be capitalized for five years only. Based on these
assumptions, calculate a reasonable offering price for Richfield, Inc. Indicate how much
of the price consists of goodwill.
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