We begin with Jim, the owner-manager of the FrothySlope microbrewery and restaurant in a small Colorado...

 

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We begin with Jim, the owner-manager of the FrothySlope microbrewery and restaurant in a small Colorado ski town, who has recently been the object of potential investor attention. The success of his first brewpub and the local popularity of his microbrews have resulted in a direct offer to invest $100,000 in outgoing operations and a desire to consider bottling and broader distribution. Although Jim has a business degree, complete with introductory exposures to accounting and finance, he is most comfortable overseeing the production of his handcrafted honey wheat ale. While he welcomes the eager investor, he also has no feeling for how much ownership he should be willing to sell in exchange for the $100,000 investment. Does the past matter? After some thought, Jim structures his approach as follows: 1) I have $50,000 of my own cash in the brewpub and one and a half years of seventy-hour weeks. 2) I have taken only a small amount of cash put of the business for my living expenses, certainly not equal to a reasonable wage. 3) In college, I worked at a brewpub for $10 an hour, but that college degree ought to be worth at least $5 more per hour. 4) It seems like I have about $131,900 [$50,000 (78 70 $15)] of cash and sweat in this brewpub. 5) $100,000+ $131,900 = $231,900, and 100,000/231,900 is about 43percent. 6) I can take the $100,000, remain the majority owner, and take a shot at the big time 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 growing at 40% is 100,000 (1.4)^5-$537,824, slightly more than $500,000. Does this mean the investor is not really expected to make 4-% on the $100,000, even though we used that discount rate to arrive at the initial $5,856,935 valuation? (Hint: What about explicit forecast period flows?) b) Returning to the brewpub spreadsheet with all flows included, how much more of the venture's ownership of surplus cash flows would have to be sold for the $100,00 if the investor expected to make 70% (given Jim's utopian vision of his future)? c) What percentage of the brewpub's present value is contained in the present value of the terminal value (the venture's "reversion value") d) How much ownership of the brewpub cash flows would need to be sold to an investor demanding 40% but agreeing that the mature brewpub venture would terminally grow at a rate of 8% with a risk profile requiring a discount rate of 16%? What if the terminal growth rate were 10% and the discount rate 18% ? (The spread between the discount rate and the growth rate is sometimes referred to as the "capitalization rate" for the terminal flows or just the "cap rate") We begin with Jim, the owner-manager of the FrothySlope microbrewery and restaurant in a small Colorado ski town, who has recently been the object of potential investor attention. The success of his first brewpub and the local popularity of his microbrews have resulted in a direct offer to invest $100,000 in outgoing operations and a desire to consider bottling and broader distribution. Although Jim has a business degree, complete with introductory exposures to accounting and finance, he is most comfortable overseeing the production of his handcrafted honey wheat ale. While he welcomes the eager investor, he also has no feeling for how much ownership he should be willing to sell in exchange for the $100,000 investment. Does the past matter? After some thought, Jim structures his approach as follows: 1) I have $50,000 of my own cash in the brewpub and one and a half years of seventy-hour weeks. 2) I have taken only a small amount of cash put of the business for my living expenses, certainly not equal to a reasonable wage. 3) In college, I worked at a brewpub for $10 an hour, but that college degree ought to be worth at least $5 more per hour. 4) It seems like I have about $131,900 [$50,000 (78 70 $15)] of cash and sweat in this brewpub. 5) $100,000+ $131,900 = $231,900, and 100,000/231,900 is about 43percent. 6) I can take the $100,000, remain the majority owner, and take a shot at the big time 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 growing at 40% is 100,000 (1.4)^5-$537,824, slightly more than $500,000. Does this mean the investor is not really expected to make 4-% on the $100,000, even though we used that discount rate to arrive at the initial $5,856,935 valuation? (Hint: What about explicit forecast period flows?) b) Returning to the brewpub spreadsheet with all flows included, how much more of the venture's ownership of surplus cash flows would have to be sold for the $100,00 if the investor expected to make 70% (given Jim's utopian vision of his future)? c) What percentage of the brewpub's present value is contained in the present value of the terminal value (the venture's "reversion value") d) How much ownership of the brewpub cash flows would need to be sold to an investor demanding 40% but agreeing that the mature brewpub venture would terminally grow at a rate of 8% with a risk profile requiring a discount rate of 16%? What if the terminal growth rate were 10% and the discount rate 18% ? (The spread between the discount rate and the growth rate is sometimes referred to as the "capitalization rate" for the terminal flows or just the "cap rate")

Answer rating: 100% (QA)

The Past and Jims Ownership Stake Yes the past does matter in determining how much ownership Jim should be willing to sell Heres why Jims Investment His 50000 cash investment and countless hours of wo... View the full answer