¨ Enclosed you will find our estimate of Well Water's most recent income statement and its current balance sheet. Please note that the asset values are estimated market values.
¨ There is little doubt that Well Water has been poorly run. Here are a few examples: failure to require a deposit on the water coolers has resulted in the firm absorbing the full cost of all breakage on the part of the customers; what it would cost to buy them new. The same is true of its leased computer. Our consolidated income statement assumes you discontinue leasing and purchase this equipment at an estimated cost of $100(000).
¨ Consolidation will most definitely reduce costs. Distribution will be more efficient and more effective use will be made of plant, equipment, and trucks.
¨ See our estimate of a consolidated income statement in Exhibit 4. The Punch Product numbers are the figures you supplied us. The Well Water numbers represent our estimate of this firm's most recent income statement. It is our opinion that the consolidated figures could persist indefinitely, assuming reasonable service of Well Water's present customers and a reasonable credit policy.
¨ Well Water has no receivables because all sales were in cash. This undoubtedly has hurt sales. Its abnormally low amount of accounts payable and accruals reflects it policy of paying its suppliers very promptly and its employees once a week. We judge your net working capital situation (CA-CL) to be typical of a firm in this industry.
PP's executives feel quite confident that these estimates are accurate and are pleased with the thoroughness of Barley and Associates. PP is also confident that the bottled water market is expanding. The area's economy is projected to grow sharply in the next five years and this means more firms to serve (and households as well should PP decide to enter that market). Then there is the result of a survey done by Liz London, the director of marketing. At the end of each business day for three full months, London faithfully queried the cooler installation man at Well Water and determined that based on the number of new coolers they installed, Well Water's sales should have doubled. The problem, London was astonished to learn, was that they removed as many old coolers as they installed. The service of Well Water was the major problem. Apparently some new orders were never processed, others were processed literally months after they were initially placed, and missed deliveries were common.
"Refresh my mind," Millard says, somewhat sarcastically. "Exactly why are we interested in buying this firm? Certainly not for its bookkeeping system or its management policies. And certainly not for its assets. I mean, the market value of all it owns is only about $800(000) and we're considering paying $2M for the firm. It all sounds crazy to me. The difference of $1.2M represents goodwill, which we can't ever depreciate."