Orange is a publicly listed entity which has experienced rapid growth in recent years through the
acquisition and integration of other entities. Orange is interested in acquiring Fox, a retailing business,
which is one of several entities owned and managed by the same family, of which Lodan is the ultimate
The summarised financial statements of Fox for the year ended 30 September 20X4 are:
Statement of profit or loss
Cost of sales (45,000)
Gross profit 25,000
Operating costs (7,000)
Directors’ salaries (1,000)
Profit before tax 17,000
Income tax expense (3,000)
Profit for the year 14,000
Statement of financial position
Property, plant and equipment 32,400
Bank 100 7,600
Total assets 40,000
Equity and liabilities
Equity shares of $1 each 1,000
Retained earnings 18,700
Directors’ loan accounts (interest free) 10,000
Trade payables 7,500
Current tax payable 2,800 10,300
Total equity and liabilities 40,000
From the above financial statements, Orange has calculated for Fox the ratios below for the year
ended 30 September 20X4. It has also obtained the equivalent ratios for the retail sector average which
can be taken to represent Fox’s sector.
Fox Sector average
Return on equity (ROE) (including
directors’ loan accounts) 47.1% 22.0%
Net asset turnover 2.36 times 1.67 times
Gross profit margin 35.7% 30.0%
Net profit margin 20.0% 12.0%
From enquiries made, Orange has learned the following information:
1. Fox buys all of its trading inventory from another of the family entities at a price which is 10% less than the market price for such goods.
2. After the acquisition, Orange would replace the existing board of directors and need to pay remuneration of $2.5 million per annum.
3. The directors’ loan accounts would be repaid by obtaining a loan of the same amount with interest at 10% per annum.
4. Orange expects the purchase price of Fox to be $30 million.