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…

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:

  • 23 or less – “Distress” Zone
  • from 1.23 to 2.9 – “Grey” Zone
  • 9 or more – “Safe” Zone

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