Chapter 6, Problem 6.18E

Exercise 6.18

LO 9

Goodwill-effect on ROI and operating income Goodwill arises when one firm acquires the net assets of another firm and pays more for those net assets than their current fair value. Suppose that Target Co. had operating income of $540,000 and net assets with a fair value of $1,800,000. Takeover Co. pays $2,700,000 for Target Co.’s net assets and business activities.

Required:

1. How much goodwill will result from this transaction?
2. Calculate the ROI for Target Co. based on its present operating income and the fair value of its net assets.
3. Calculate the ROI that Takeover Co. will earn if the operating income of the acquired net assets continues to be $540,000.
4. What reasons can you think of to explain why Takeover Co. is willing to pay $900,000 more than fair value for the net assets acquired from Target Co.?