The Alpha One Software Corporation was organized to develop software products that would provide Internet-based firms with information about their customers. As a result of initial success, the venture’s premier product allows firms with subscriber bases to predict customer profiles, retention, and satisfaction. Arlene Io received an undergraduate degree in computer sciences and information systems from a major northeastern university four years ago. The Omega Subscriber Software Product was developed, test marketed with the help of two of her classmates; Alpha One Software Corporation was up and running within one year. Venture capital was obtained to start up operations; a second round of venture financing helped Alpha One to move through its survival stage. Product success in the marketplace has allowed the venture to achieve such rapid sales growth that it now is able to get bank loans and issue long-term debt. The interest rate on the bank loan is 10 percent. For long-term debt, the real interest rate is estimated to be 3 percent; the inflation premium is 4 percent; and Alpha One’s default/liquidity risk premium over government bonds is estimated to be 7 percent. The cost of common equity was estimated using the risk-free long-term government bond rate and a stock investment risk premium of 13 percent. Arlene Io has now reached the point of being able to consider whether Alpha One is adding economic value in terms of its net operating profit after taxes (NOPAT) and its weighted average cost of capital (WACC). Following are the financial statements for 2016. Alpha One Software Corporation Income Statement 2016 Net Sales $1,500,000 Cost of Goods Sold -850,000 Gross Profit 650,000 General & Administrative Expenses -250,000 Marketing -206,000 Depreciation -50,000 Earnings Before Interest and Taxes 144,000 Interest -84,000 Earnings Before Taxes 60,000 Income Taxes (40% rate) -24,000 Earnings After Taxes $36,000 Alpha One Software Corporation Balance Sheet 2016 Cash $20,000 Accounts Receivable 250,000 Inventories 350,000 Total Current Assets 620,000 Fixed Assets, Net 480,000 Total Assets $1,100,000 Accounts Payable 125,000 Accrued Liabilities 125,000 Notes Payable 100,000 Total Current Liabilities 350,000 Long-Term Debt 500,000 Common Stock (20,000 shares) 100,000 Retained Earnings 150,000 Total Liabilities & equity $1,100,000 A. Calculate Alpha One’s net operating profit after taxes (NOPAT). Why does the NOPAT differ from the earnings after taxes? B. Estimate the effective before-tax cost of the long-term debt. C. Estimate the effective after-tax cost of the bank loan and the long-term debt. D. Estimate the cost of common equity capital. E. Determine the financial structure weights from Alpha One’s 2016 financial statements for the two interest-bearing debt components and the common equity. F. Calculate Alpha One’s weighted average cost of capital (WACC). G. Determine the dollar cost of financial capital used. H. Estimate Alpha One’s economic value added (EVA). Did Alpha One build or destroy economic value in 2016?
> How does a present value venture valuation pie differ from a future value valuation pie?
> Describe the process for estimating the percentage of equity ownership that must be given up by the founder when a new equity investment is needed.
> Describe the basic venture capital (VC) method for estimating a venture’s value.
> What is the difference between discounting expected cash flows from multiple scenarios at a constant rate and averaging the scenarios’ PVs calculated with that single discount rate?
> What is meant by the utopia discount process? Describe how expected present value is calculated.
> What is meant by “finding the value of a venture’s assets is the same as finding the value of a venture’s debt plus equity”?
> Describe the equity valuation method.
> Explain the difference between pre-money valuation and post-money valuation.
> What is a venture’s reversion value?
> What are the three types of comparisons that can be made when conducting ratio analyses?
> Define the terms (a) explicit forecast period (b) terminal or horizon value as they relate to a venture’s discounted cash flow valuation.
> Describe what is meant by the statement “If you’re not using estimates, it’s not a valuation.”
> What is the relationship between equity valuation cash flows and dividends?
> Identify and describe the major components that are used to calculate the equity valuation cash flow.
> What is net operating working capital?
> Briefly describe the process for projecting financial statements.
> Define required cash and surplus cash. Why does it matter how we treat surplus cash for valuation purposes?
> What is meant by sweat equity?
> Explain how projected economic scenarios can be used to help forecast a firm’s sales growth rate.
> List the major sources of funds typically available to ventures that have successfully entered into their rapid-growth life cycle stage.
> What are financial ratios and why are they useful?
> Identify some of the types of securities that are “exempt” from registration with the SEC.
> Why does it matter if an investment is, or is not, viewed as being a security?
> What is meant by the term “blue sky” laws and how do these laws apply when issuing securities?
> Briefly describe the types of exemptions from registration of securities covered under Rules 701 and 1001.
> Briefly describe Rule 508 of Reg D.
> Briefly describe the purpose of Rule 144 of Reg D.
> What is a restricted security? Why does this designation matter? What types of buyers must the owner of restricted securities find?
> What is integration as it applies to securities offerings and why does it matter?
> What are the four conditions of a Reg D offering that are covered under Rule 502?
> Briefly discuss the Investment Company Act of 1940 and Investment Advisers Act of 1940.
> How do private and public financial markets differ?
> Briefly describe how the SEC’s Regulation D expanded the original Securities Act of 1933 definition of an “accredited investor.”
> What is the purpose of the SEC’s Regulation D?
> Identify and briefly describe two basic types of transactions that are exempt from registration with the SEC.
> Briefly describe what is meant by an intrastate offering. What are the major difficulties in assuring that an offer is intrastate?
> Briefly define the Securities Act of 1933 and Securities Exchange Act of 1934.
> What is a bond rating?
> What is meant by a prime rate?
> Define the term default risk premium.
> Define inflation. What is meant by an inflation premium?
> The SoftTec Products Company is a successful small, rapidly growing, closely held corporation. The equity owners are considering selling the firm to an outside buyer and want to estimate the value of the firm. Following is last year’s income statement (2
> Interact Systems, Inc. has developed software tools that help hotel chains solve application integration problems. Interact’s Application Integration Server (AIS) provides a two-way interface between central reservations systems (CRS) and property manage
> R.K. Maroon is a seed-stage web-oriented entertainment company with important intellectual property. RKM’s founders, all technology experts in the relevant area, are anticipating a quick leap to dot-com fortune and believe that their unique intellectual
> The Pharma Biotech Corporation spent several years working on developing a DHA product that can be used to provide a “fatty acid” supplement to a whole variety of food products. DHA stands for docsahexaenoic acid, an omega-3 fatty acid found naturally i
> What is a nominal interest rate? Describe a risk-free interest rate and a real rate of interest.
> Identify the types of financing typically used during each life cycle stage of the successful entrepreneurial venture.
> The Pharma Biotech Corporation spent several years working on developing a DHA product that can be used to provide a “fatty acid” supplement to a whole variety of food products. DHA stands for docsahexaenoic acid, an omega-3 fatty acid found naturally i
> The Pharma Biotech Corporation spent several years working on developing a DHA product that can be used to provide a “fatty acid” supplement to a whole variety of food products. DHA stands for docsahexaenoic acid, an omega-3 fatty acid found naturally i
> Kaj Rasmussen founded Scandi Home Furnishings as a corporation during mid-2013. Sales during the first full year (2014) of operation reached $1.3 million. Sales increased by 15 percent in 2015 and another 20 percent in 2016. However, profits after inc
> Kaj Rasmussen founded Scandi Home Furnishings as a corporation during mid-2013. Sales during the first full year (2014) of operation reached $1.3 million. Sales increased by 15 percent in 2015 and another 20 percent in 2016. However, profits after inc
> The Salza Technology Corporation successfully increased its “top line” sales from $375,000 in 2015 to $450,000 in 2016. Net income also increased as did the venture’s total assets. You have been asked to compare the financial performance between the tw
> Assuming that the earnings before interest and taxes are only $320,000 while CAPEX is $110,000. Assume the other information remains the same.
> Find the enterprise valuation cash flow expected for the current year given the following information: Capital expenditures (CAPEX) = $150,000 Depreciation and amortization expenses = $40,000 Earnings before interest and taxes = $400,000 Effective income
> Calculate the conversion price formula (CPF) and market price formula (MPF) prices for an offering involving an existing conversion price of $1, a hypothesized market price of $2, and a new offering price of $.95 for 1,000 shares with 2,000 shares outsta
> The CCC (triple C) Venture has issued convertible preferred stock to its venture investors. Each share of preferred stock is convertible into .80 shares of common stock and pays an annual cash dividend of $.25. A. If each share of preferred stock has a
> What is an interest rate? What is default risk?
> The Datametrix Corporation has been in operation for one full year (2016). Financial statements are shown below. Sales are expected to grow at a 30 percent annual rate for each of the next three years (2017, 2018, and 2019) before settling down to a lo
> Why is the market value of currently issued debt subtracted from the enterprise value (in a debt-and-equity-only firm) to arrive at the value of equity? Why are future debt issues ignored by the process?
> A venture has a $500,000 bank loan outstanding, a long-term debt obligation of $900,000, accounts payable of $200,000, and accounts receivable of $350,000. A. If the venture’s equity value is $2,450,000, what would be the associated enterprise value? B.
> Why is the (1-tax rate) in the WACC? How does the government pay the tax rebate on interest – through a flow or in the rate?
> A share of a venture’s preferred stock is convertible into 1.5 shares of its common stock. The dividend on the preferred stock is $.50 per share. A. If the firm’s common stock is currently trading at $9.75, what is the conversion value of a share of the
> 1,000,000 initial founders’ shares (instead of the original 2,000,000 shares). What changes?
> Suppose a venture fund wishes to base its required return (used in discounting future terminal values) on its historical experience and suggests merely averaging the rates on the last three concluded deals. These deals realized total returns of –67% at
> Ratchets.com anticipates that it will need $15,000,000 in venture capital to achieve a terminal value of $300,000,000 in five years. A. Assuming it is a seed stage firm with no existing investors, what annualized return is embedded in their anticipatio
> A venture capitalist wants to estimate the value of a new venture. The venture is not expected to produce net income or earnings until the end of year 5 when the net income is estimated at $1,600,000. A publicly-traded competitor or “comparable firm” h
> Vail Venture Investors, LLC has recently acquired a 40 percent equity ownership in Black Hawk Products, Inc. in exchange for a $5 million investment. Vail Venture Investors is interested in estimating an expected compound rate of return on its investmen
> What is the difference between private equity investors and publicly traded stock investors?
> Vail Venture Investors, LLC is trying to decide how much percent equity ownership in Black Hawk Products, Inc. it will need in exchange for a $5 million investment. Vail Venture Investors has a target compound rate of return of 25 percent on venture inv
> Return to the discussion of the FrothySlope venture at the beginning of the chapter. Formulate an answer for each of the five questions that are posed under the heading “What Is a Venture Worth? (1) What are the benefits and disadvantages of his approac
> Following are financial statements (historical and forecasted) for the Global Products Corporation. GLOBAL PRODUCTS CORPORATION Forecast 2016 2017 Cash $50,000 $60,000 Accounts Receivables 200,000 290,
> Refer to the FrothySlope microbrewery example. A. How does the $500,000 piece of the terminal value relate to the future value of the $100,000? That is, the brewpub investor was looking for a 40% return. The five-year-out future value of $100,000 growi
> Ben Toucan, owner of the Aspen Restaurant, wants to determine the present value of his investment. The Aspen Restaurant is currently in the development stage but hopes to “begin” operations early next year. After-tax cash flows during the next five years
> Assume the forecasted cash flows for the TecOne Corporation venture also hold for the LowTec venture. However, investors in LowTec have an expected rate of return of 30 percent on their investment until Year 6 when the rate of return is expected to drop
> The TecOne Corporation is about to begin producing and selling its prototype product. Annual cash flows for the next five years are forecasted as: Year Cash Flow 1 -$50,000 2 -$20,000 3 $100,000 4 $400,000 5 $800,000 A. Assume annual cash flo
> Assume you sell for $100,000 a 10 percent ownership stake in a future payment one year from now of $1.5 million. A. What are you saying about the implied return for the 10 percent owner? B. What is the present value of the entire $1.5 million, using the
> Following are two years of income statements and balance sheets for the Munich Exports Corporation. Munich Exports Corporation 2015 2016 Cash $ 50,000 $ 50,000 Accounts receivable 200,000 300,000 Inv
> The Minoso Corporation anticipates a 20 percent increase in sales for 2017 over its 2016 level. Minoso is currently operating at full capacity and thus expects to increase its investment in both current and fixed assets in order to support the increase
> Describe the differences between senior debt and subordinated debt.
> Petal Providers Corporation, described in Problem 1, is interested in estimating its additional financing needs to support a rapid increase in sales next year. Last year revenues were $1 million, the net profit was $50,000, the investment in assets was
> Petal Providers Corporation, described in Problem 1, is interested in estimating its sustainable sales growth rate. Last year revenues were $1 million, the net profit was $50,000, the investment in assets was $750,000, payables and accruals were $100,000
> Petal Providers Corporation opens and operates “mega” floral stores in the U.S. The idea behind the super store concept is to model the U.S. floral industry after its European counterparts whose flower markets generally have larger selections at lower p
> Three Rules (504, 505, and 506) under Regulation D relate to the (a) amount of offerings and (b) number of investors. Match Rules 504, 505, and/or 506 with each of the following: A. $5 million offering limit (in a 12-month period) B. $1 million offering
> The CareAssist Company, a web-based provider of information for the elderly, is planning to sell $4 million in securities. Management is trying to decide which, if any, securities laws must be complied with. For each of the following situations, descri
> The NetCare Company, which operates living assistance facilities, is planning to issue or sell shares of stock to “accredited investors.” Briefly explain whether each of the following individuals would qualify as an “accredited investor” under the SEC’s
> Assume that BKAngel’s initial investments in the three ventures had been Venture 1 = $500,000, Venture 2 = $300,000, and Venture 3 $200,000 with each investment having achieved the same cash flows and ending values shown in Problem 5. A. Calculate the p
> Three venture investments previously made by BKAngel, a venture investor, achieved the following outcomes for the year just completed: Venture Initial Cash Ending Opportunity Value Flow Value Ven1 $300,000 $75,000 $600,000 Ven2 $400,000
> A potential venture investment has the following possible outcomes: Performance Probability of Rate of Outcome Occurrence Return Home Run (Success) .15 500.0% Breakeven .35 15.0 Strikeout (Failure) .50 -100.0 A. What is the expec
> A venture investor, BKAngel, is considering investing in a software venture opportunity. However, the rate of return to be realized next year is likely to vary with the economic climate that actually occurs. Following are three possible economic outcomes
> What is meant by the term structure of interest rates? What is a yield curve?
> Voice River, Inc. is interested in estimating its weighted average cost of capital (WACC) now that it is in its rapid growth stage. Voice River has a $500,000, 10 percent interest, short-term bank loan, a $1.5 million, 12 percent long-term debt issue, a
> Voice River, Inc. has successfully moved through its early life cycle stages and now is well into its rapid growth stage. However by traditional standards this provider of media-on-demand is still considered to be a relatively small venture. The intere
> Kareem Construction Company has the following amounts of interest-bearing debt and common equity capital: Financing Dollar Interest Cost of Source Amount Rate Capital Short-Term Loan $200,000 12% Long-Term Loan $200,000 14% Equity Capital
> Use the following information to estimate the rate of return expected by the VentureBanc Investors: Rate Return Component Component Liquidity Premium 5% Risk-free Rate 6 Advisory Premium 9 Market Risk Premium 7.5 Hubris Projection Premium
> Voice River, Inc. provides media-on-demand services via the Internet. Management has been studying current interest rates. A lender is willing to make a two-year loan to Voice River at a 12 percent annual interest rate. The U.S. government is currentl
> Castillo Products Company improved its operations from a net loss in 2015 to a net profit in 2016. While the founders, Cindy and Rob Castillo, are happy about these developments, they are concerned with trying to understand how long the firm takes to co
> Cash Conversion Cycle] Two years of financial statement data for the Munich Export Corporation are shown below. MUNICH EXPORTS CORPORATION Balance Sheet 2015 2016 Cash $50,000 $50,000 Accounts Receivable
> Artero Corporation is a traditional toy products retailer that recently also started an Internet-based subsidiary that sells toys online. A markup is added on goods the company purchases from manufacturers for resale. Swen Artero, the company president
> Because of an unexpected order, the PDC Company’s sales are forecasted to be $160,000 for September 2017.
> Because of an unexpected order, the PDC Company’s sales are forecasted to be $160,000 for September 2017.
