BBA3 Course #4 | My Assignment Tutor

NEW VENTURE FINANCINGQuestions & ExercisesBBA3 Course #4Exercise N°1:On April 1, 2016, Mildred and George Marvin met with Chip Norton to celebrate the incorporation ofMarvin Enterprises. The three entrepreneurs had raised $100 000 from savings and personal bankloans and purchased one million shares in the new company. At this zero‐stage investment, thecompany’s assets were $90 000 in the bank ($10 000 had been spent for legal and other expenses ofsetting up the company), plus the idea of a new product.Marvin’s Enterprises’ bank account steadily drained away as design and testing proceeded. Local banksdid not see Marvin’s idea as adequate collateral, so a transfusion of equity capital was clearly needed.The plan was confidential document, describing the proposed product, its potential market, theunderlying technology, and the resources (time, money, employees, plant and equipment) needed forsuccess.Marvin’s managers were able to point to the fact that not only had they stalked all their savings in thecompany, but they were mortgaged to the hilt. This signalled their faith in their business. First MeriamVenture Partners was impressed with Marvin’s presentation and agreed to buy one million shares for$1 each. By accepting a $2 million after‐the‐money valuation, First Meriam implicitly put a $1 millionvalue on the entrepreneurs’ idea and their commitment to the company. It also handed theentrepreneurs a $900 000 paper gain over their original $100 000 investment. In exchange, theentrepreneurs gave up half their company and accepted First Meriam’s representatives to the boardof directors.Venture capitalists rarely give a young company the money it needs all at once. At each stage, theygive enough to reach the next major checkpoint. Thus, in spring 2018, having designed and tested aprototype, Marvin Enterprises was back asking for more money for pilot production and testmarketing. Its second‐stage financing was $4 million, of which $1.5 million came from First Meriam, itsoriginal backers, and $2.5 million came from two other venture capital partnerships and wealthyindividual investors. This gave raise to a $14.0 million after‐the‐money valuation of the company.By the time third‐stage funds were needed, the enterprise was valued at $42.0 million. (a)(b)At the zero‐stage moment, what was the value of one Marvin Enterprises share?After the first‐stage financing, how did the company’s market value balance sheet looklike?What return and increase in value had the entrepreneurs enjoyed between the first‐stage and second‐ stage, and between the first‐stage and third‐stage?How would your answer to (a) above change if they had agreed a second‐stage after‐the‐money valuation of $8.0 million instead of $14.0 million, with the before‐the‐money third‐stage valuation of $42.0 million remaining unchanged?(c)(d) Exercise N°2:DuckBills is a young company started by two brothers, Bill and Larry, with their savings amounting to$200,000. The firm received venture capital financing two years after its start‐up. The venturecapitalists provided first‐stage financing of $2.5 million and valued the firm after‐the‐money at $5.0million. Two years later, the firm received second‐stage financing from the same venture capitalcompany. DuckBills received $6.0 million and was valued at $20.0 million after‐the‐money. A year later,DuckBills was ready for its IPO and the underwriters valued the company (before the IPO) at $60.0million. Calculate the returns for the brothers and the venture capital company at each stage offinancing.Exercice N°3:The common stock and debt of Northern Sludge are valued $50 million and 30$ million, respectively.Investors currently require a 16% return on the common stock and an 8% return on the debt. (a)(b)Compute the firm’s WACCIf Northern Sludge issues an additional $10 million of common stock and uses this moneyto retire debt, what happens to the expected return on the stock? Assume that thechange in capital structure does not affect the risk of the debt and that there are notaxes.If the risk of the debt did change, would your answer underestimate or overestimate the(c) expected return on the stock?Exercice N°4Skriek is considering a project which would entail a €1 000 000 investment (year 0). The expectedcash flow would be of €100 000 on year 2, €250 000 on year 3 and year 4 and €700 000 on year 5.The company’s shareholders get a return of 12%, and Skriek could borrow at 7%. Presently, the firmhas €3 000 000 of debt, and its market value is €10 000 000.Should the company finance the project with equity or with debt?


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