Business Combination

6 Months Ended

Jul. 01, 2017

Business Combination [Abstract]

Business Combination

Note M – Business Combination

On April 3, 2017, The Eastern Company (the "Company") completed an acquisition of Velvac Holdings, Inc. ("Velvac"), a Delaware corporation (including its subsidiaries), for $39.5 million and an earnout consideration contingent upon Velvac achieving minimum earning performance levels and based on sales of Velvac's new proprietary Road-IQ product line, subject to certain customary post-closing adjustments (the "Acquisition"). Velvac is a premier designer and manufacturer of proprietary vision technology for original equipment manufacturers serving the heavy-duty and medium-duty truck, motorhome, and bus markets.

The goodwill of $17,502,000 arising from the acquisition consist of the difference between the consideration paid and the fair value of the assets and liabilities acquired. None of the goodwill recognized is expected to be deductible for income tax purposes. The following table summarizes the consideration paid for Velvac and the amounts of the assets acquired and liabilities assumed recognized at the acquisition date, as well as the fair value at the acquisition date.

At April 3, 2017:

Consideration
Cash	$	4,078,000
Debt		36,000,000
Contingent consideration arrangement		2,070,000
	$	42,148,000
Recognized amounts of identifiable assets acquired and liabilities assumed
Accounts receivable	$	6,063,429
Inventory		12,992,377
Prepaid and other assets		494,617
Property plant and equipment		3,911,767
Other noncurrent assets		366,401
Other intangible assets		11,560,000
Current liabilities		(7,720,591	)
Deferred tax liabilities		(3,022,000	)
Total identifiable net assets		24,646,000
Goodwill		17,502,000
	$	42,148,000

The Company determined the acquisition date fair value of the contingent consideration obligation using the Income Approach method which is a valuation technique that provides an estimate of the fair value of an asset based on the market participant expectations of the cash flows an asset would generate over a period of time. The contingent consideration obligation was based on weighted projected cash flows discounted back to present value equivalents at a risk adjusted discount rate. The Velvac earnout is contingent upon the ability of Velvac to reach certain EBITDA targets over the course of the next five years. At each annual period, the Company will revalue the contingent consideration obligation to estimated fair value and record changes in fair value as income or expense in the Company's consolidated statement of operations.

Accounts Receivable

Acquired receivables are amounts due from customers.

Inventories

The estimated fair value of inventories acquired included a step-up in the value of inventories of $1,187,668. The entire amount was charged to cost of sales in the second quarter of 2017.

Intangible Assets

The estimated fair value of identifiable intangible assets is determined primarily using the Income Approach method which is a valuation technique that provides an estimate of the fair value of an asset based on the market participant expectations of the cash flows an asset would generate over its remaining useful life. Some of the more significant assumption inherent in the development of the identifiable intangible assets valuation, from the perspective of a market participant, include the estimate net cash flows for each year for each project or product, the appropriate discount rate to select in order to measure the risk inherent in each future cash flow stream, the assessment of each asset's life cycle, competitive trends impacting the asset and each cash flow stream as well as other factors.

Goodwill Allocation

Among the primary reasons the Company entered into the Velvac acquisition and the factors that contributed to a purchase price resulting in the recognition of goodwill were a history of operating margins and profitability, a strong research and development center including its Road-iQTM  360-degree view camera, recording and communication system and TrailerLinkTM, a new patent-pending solution that supports trailer-to-trailer video and data communications, expanded commercial footprint on a nationwide basis, and key pipeline additions of Velvac which will enable the Company to expand its product offerings and offer its customers a greater breadth of products.

Acquisition Related Expenses

Included in general and administrated expenses in the consolidated statements of operations for the three and six month periods ended July 1, 2017 were $691,000 and $869,000 respectively for acquisition expenses.