Reference no: EM13189652

Instructions: The Company has one asset. The asset has a three-year life and two possible payoffs each year: 1) $750 with a probability of 40%, and 2) $100 with a probability of 60%. The company depreciates assets using the straight-line method. Assume the states between years are independent, an interest rate of 6%, and state 1 is realized in year 1. Show the balance sheet, income statement, and residual income / goodwill analysis for year 1.

• IBelieve this is the right answer, but I'm not totally sure goodwill was calculated correctly.
  
  Year 0 1
  Balance Sheet
  Cash $0.00 $750.00
  Investment(Book Value) $962.28 $641.52
  Total Assets $962.28 $1,391.52
  
  Net Worth
  Invest Capital $962.28 $962.28
  Retained Earnings $0.00 $429.24
  Total Net Worth $962.28 $1,391.52
  
  Income Statement
  Actual cash flows $750.00
  Depreciation $320.76
  Interest Income $0.00
  Net Income $429.24
  
  Residual Income Analysis- Year 1
  Expected interest income $45.00
  Depreciation $320.76
  Actual if good state $750.00
  Good state Net Income $474.24
  
  Expected Interest Income $45.00
  Depreciation $320.76
  Actual if bad state $100.00
  Bad state Net Income ($175.76)
  
  Expected Income $214.24
  Return on Net Worth $83.49
  Expected abnormal earnings $130.75
  Goodwill $118.86
  
  Valuation
  BV 1391.522868
  Gw $118.86
  PA 1510.383953

• I think this is right up to expected income. Don't you have to add the Good State x .60 and the bad state x .40 to arrive at expected income? And you take the present value of goodwill in the valuation.