Assume that you are Best Buys, the electronics retailer, and that you would like
ID: 2647385 • Letter: A
Question
Assume that you are Best Buys, the electronics retailer, and that you would like to enter the hardware component of the market. You have been approached by investment bankers for Zenith, which while still a recognized brand name, is on its last legs financially. The firm has net operating losses of $ 2 billion. If your tax rate is 36%, estimate the tax benefits from this acquisition. If Best Buys had only $500 million in taxable income, how would you compute the tax benefits?If the market value of Zenith is $800 million, would you pay this tax benefit as a premium on the market value?
Explanation / Answer
Net operating loss of Zenith = $2 billion
tax rate = 36%
so tax benefits = 36% of $2 billion = $0.72 billion
This is a tax benefir, as the acquiring company will decrease its tax outgo due to the loss of the company being acquired.
If best buys had $500 million in taxable income, then the loss of $2 billion will be adjsuted against it. so Best buy will noy have to pay any tax as the entire amount of $500 million will be adjusted in the loss of $2 billion. So tax benefit here = 36% of 500 million = $180 million
Market value of Zenith = $800 million. Additional benefits due to less tax outgo = $180 million (as calculated above). The benefit from tax due to loss of Zenith will be available to any company buying it, and this is already incorporated in the Zenith's market value. This benefit is not exclusively for you. Hence no premium should be paid.