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Entrepreneurial Finance 4th edition J . chris leach, Ronald w. melicher - Solutions
Describe the following: (a) Expected rate of return,(b) Standard deviation, and (c) Coefficient of variation.
Describe the historical average annual return relationships among long-term U.S. government bonds, corporate bonds, small-firm common stocks, and large-firm common stocks.
What is the difference between private equity investors and publicly traded stock investors?
How does an organized securities exchange differ from an over-the-counter market?
What is meant by an investment risk premium? What is a market risk premium?
What rates of return at various horizons have venture capitalists earned, on average, in recent years? How do these returns compare with the average venture capital returns over the past twenty years?
How do we estimate the cost of equity capital for private ventures? In developing your answer, describe the major components that are considered when estimating the rates of return required by venture investors.
What discount rates are typically used for development stage, startup-stage, survival-stage, and early growth–stage ventures?
What is meant by the weighted average cost of capital (WACC)?
From the Headlines—Lovely Confections: List three types of financing employed by Lovely Confections in order of increasing required returns. Explain why the types are listed in the order you give.
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 currently paying 8 percent annual interest on its
Following is interest rate information currently being observed by the Electronic Publishing Corporation:One-year U.S. government securities .... 4.5%One-year bank loans ............ 6.0%Five-year U.S. government securities .... 7.0%Five-year bank loans ............ 9.5%A. What is the amount of the
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, the probability that each one will occur,
A potential venture investment has the following possible outcomes:A. What is the expected rate of return on the venture?B. Calculate the variance and standard deviation of the rates of return for the venture.C. Calculate the coefficient of variation of the rates of return for the venture. If the
Three venture investments previously made by BKAngel, a venture investor, achieved the following outcomes for the year just completed:A. Calculate the percentage rate of return for each of the venture investments.B. Calculate the expected rate of return for a portfolio of these three venture
Refer to Problem 5. 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 percentage rate of
Jerry’s Tree Services is trying to raise debt funds from a prospective venture investor, SureWay LLC. SureWay indicated to Jerry Lau that the annual interest rate on risky venture loans is currently 15 percent. Jerry is seeking a three-year loan with annual payments. He is willing to pay back
Following is the rate-of-return component information for FirstVenture investors:RATE COMPONENT RETURN COMPONENTLiquidity premium ......... 5.5%Risk-free rate ........... 6%Advisory premium ......... 9%Investment risk premium ......
Use the following information to estimate the VentureBanc investors’ target rate of return:RATE COMPONENT RETURN COMPONENTLiquidity premium ............ 5%Risk-free rate .............. 6%Advisory premium ............. 9%Market risk
Kareem Construction Company has the following amounts of interest-bearing debt and common equity capital:Kareem Construction is in the 30 percent average tax bracket.A. Calculate the after-tax WACC for Kareem.B. Show how Kareem€™s WACC would change if the tax rate dropped to 25 percent
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 services is still considered to be a relatively small venture. The interest rate on long-term U.S. government
Voice River, Inc., is interested in estimating its 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 interest, long-term debt issue; and $42 million in common equity. The venture is in the 35 percent
Refer to Problem 13 for Voice River, Inc. A. Estimate the WACC if the cost of common equity capital is 20 percent.B. Estimate the WACC if the cost of common equity capital is at the representative target rate of 25 percent for typical ventures in their late rapid-growth life cycle stage.
The Castillo Products Company was started in 2008. The company manufactures components for personal digital assistant (PDA) products and for other handheld electronic products. A difficult operating year, 2009, was followed by a profitable 2010. The founders (Cindy and Rob Castillo) are interested
This Mini Case incorporates the calculation of a weighted average cost of capital (WACC) to determine whether the Alpha One Software Corporation added economic value in 2010. The Appendix to Chapter 7 will need to be covered first in order to complete this Mini Case.The Alpha One Software
Kareem Construction Company has the following amounts of interest-bearing debt and common equity capital:Kareem Construction is in the 30 percent average tax bracket.A. Calculate the after-tax WACC for Kareem.B. Determine the after-tax dollar cost of financial capital used by Kareem.C.
Briefly define the Securities Act of 1933 and Securities Exchange Act of 1934.
Briefly discuss the Investment Company Act of 1940 and Investment Advisers Act of 1940.
What is meant by the term blue-sky laws and how do these laws apply when issuing securities?
Describe the meaning of a security in terms of the Securities Act of 1933.
Why does it matter if an investment is, or is not, viewed as being a security?
Briefly describe what is meant by the statement “Registering securities with the SEC is a costly and time-consuming process.”
Identify some of the types of securities 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?
Identify and briefly describe two basic types of transactions that are exempt from registration with the SEC.
What does the term accredited investor mean in terms of the Securities Act of 1933? Why does the designation matter?
Briefly describe the importance of the 1953 SEC v. Ralston Purina case in terms of securities registration requirements.
What are the restrictions on general solicitation and advertising covered in Rule 504?
How do Rules 504, 505, and 506 of Reg D differ from one another?
Provide a brief description of the use of Reg A when issuing securities.
Briefly describe how the SEC’s Reg D expanded the original Securities Act of 1933 definition of an “accredited investor.”
What are the income and net worth requirements for being an accredited investor? What in the requirements for designation as an accredited investor relates to the level of sophistication? Do the criteria act as good proxies for sophistication?
What are the four conditions of a Reg D offering that are covered under Rule 502?
What is integration as it applies to securities offerings and why does it matter?
What types of information need to be disclosed to offerees under Reg D?
What is a restricted security? Why does this designation matter? What types of buyers must the owner of restricted securities find?
Briefly describe the types of exemptions from registration of securities covered under Rules 701 and 1001.
Describe the organizational structure of Sustainable Northwest Wood and its relationship to the 501(c)3 firm Sustainable Northwest. Do you see any financing limitations under that structure that would not arise if both were for-profit operations?
The NetCare Company, which operates assisted-living 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 Reg D. [Note: Materials in Appendix B are
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, describe the securities laws that might apply:A. A
Three Rules (504, 505, and 506) under Reg 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 limit (in a 12-month period)C. No limit on the amount
The VirtualStream Company has developed proprietary server and control software for providing communication and media-on-demand services via the Internet. The company is in the process of collecting prerecorded video and audio content from clients and then digitally transferring and storing the
What is a venture’s present value? Does the past matter?
Describe what is meant by the statement, “If you’re not using estimates, you’re not doing a valuation.”
Define the terms explicit forecast period and terminal or horizon value as they relate to a venture’s discounted cash flow valuation.
What is meant by a capitalization (or cap) rate in reference to calculating a terminal value? What other types of terminal values might be appropriate (i.e., other than smooth growth procedures)?
What is a stepping-stone year? Why is it important in determining a venture’s value?
Explain the difference between pre-money valuation and post-money valuation.
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?
Define required cash and surplus cash. Why does it matter how we treat surplus cash for valuation purposes?
Briefly describe the process for projecting financial statements.
Identify and describe the major components that are used to calculate the equity valuation cash flow.
Describe how pseudo dividends are used in the equity valuation method.
Why do the numerical examples in this chapter involve a large dividend in the last year of the explicit forecast period?
Why do net income and cash flow in the numerical examples in this chapter both grow at the same rate (g) in the terminal value period? Why is this important?
What ingredients would you need to conduct a traditional equity method valuation for Foursquare? If you had the necessary projections, do you think that they would also suggest the $80–$100 million valuation mentioned in the article? Comment on the warnings you would provide to accompany your
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 implied return from Part A?C. What is 10
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 FLOW1 ...... − $ 50,0002 ...... − $ 20,0003 ........ $100,0004 ........ $400,0005 ........ $800,000A. Assume annual cash flows are
Assume the forecasted cash flows presented in Problem 2 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 to 18 percent. The
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 Toucan hopes to “begin” operations early next year. After-tax cash flows during the next five years are expected to be as follows:
Refer to the Frothy Slope microbrewery example at the beginning of this chapter.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 percent return. The five-year future value of $100,000 growing at 40
Following are financial statements (historical and forecasted) for the Global Products Corporation.A. Assume that the cash account includes only required cash. Determine the dollar amount of equity valuation cash flow for 2011.B. Now assume that Global Products€™ required cash is set at
The Biometrix Corporation has been in operation for one full year (2010). Financial statements follow. Biometrix’s management is interested in determining the value of the venture as of the end of 2010. Sales are expected to grow at a 20 percent annual rate for each of the next three years
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 (2010) and projected income statements
RxDelivery Systems is a research and development venture specializing in the development and testing of new drug delivery technologies. Driving factors behind this growth include efforts to reduce drug side effects through site-specific delivery, the need to maintain the activity of new
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.
What is staged financing? Describe how the capitalization (cap) rate is calculated.
How is multiplying a projected earnings by a P/E ratio similar to discounting a perpetuity of earnings starting at that level?
How would one expect P/E ratios to vary with a venture’s risk and growth opportunities?
What is the difference between the direct comparison method and the direct capitalization method?
Describe two important motives for having an equity component in employee compensation.
Describe the following terms from the perspective of venture performance: black hole, living dead, and venture utopia. In what sense is the typical business plan utopian?
What is meant by the utopia discount process? Describe how expected present value is calculated.
Discuss the type of data and the procedural changes necessary to implement a five-scenario expected PV valuation for a venture investment.
From the Headlines—Excaliard: What ingredients would you need to conduct a VCSC valuation for Excaliard? Does your calculation suggest that a $15.5 million Series A round is reasonable?
Calculate the discount rate consistent with a cap rate of 12 percent and a growth rate of 6 percent. Show how your answer would change if the cap rate dropped to 10 percent while the growth rate declined to 5 percent.
A venture investor wants to estimate the value of a venture. The venture is not expected to produce any free cash flows until the end of Year 6, when the cash flow is estimated at $2,000,000, and is expected to grow at a 7 percent annual rate per year into the future.A. Estimate the terminal value
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” has current earnings of $1,000,000 and a
Ratchets.com anticipates that it will need $15 million in venture capital to achieve a terminal value of $300 million in five years.A. Assuming it is a seed-stage firm with no existing investors, what annualized return is embedded in its anticipation?B. Suppose the founder wants to have a venture
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 percent at the end of two years, 50 percent at
Rework the two-stage example of Section 10.5 with 1,000,000 initial founders’ shares (instead of the original 2,000,000 shares). What changes?
Rework the two-stage example of Section 10.5 with first- and second-round required returns of 55 percent and 40 percent (instead of the original 50 percent and 25 percent). Interpret your results as they relate to the founders’ ownership and the feasibility of the financing.
Suppose you are considering a venture conducting a current financing round involving an issue of 100,000 new shares at $3. The existing number of shares outstanding is 200,000. What are the related premoney and post-money valuations?
A venture capitalist firm wants to invest $1.5 million in your NYDeli internet venture that you started six months ago. You do not expect to make a profit until Year 4 when your net income is expected to be $3,000,000. The common stock of BioSystems, a comparable firm, currently trades in the
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 investments like Black Hawk Products. Depending on
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 investment. Depending on the success of products
R.K. Maroon (RKM) 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 property will allow them to achieve
What is a professional venture capitalist? How does this occupation differ from that of an angel investor?
Briefly describe how professional venture capital got started after World War II.
What was the early role of the Small Business Administration (SBA) in fostering venture investing?
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