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[Venture Present Value Concepts] The ABC Corporation has been in operation for one full year (2013). Financial statements follow. ABC’s management is interested in determining the value of the venture as of the end of 2013. Sales are expected to grow at a 20 percent annual rate for each of the next three years (2014, 2015, and 2016) before settling down to a long-run growth rate of 7 percent annually. The cost of goods sold is expected to vary with sales. Operating expenses are expected to grow at 75 percent of the sales growth rate (i.e., be semi-fixed) for the next three years before again growing at the same rate as sales beginning in 2017. Individual asset accounts are expected to grow at the same rate as sales. Depreciation can be forecasted either as a percentage of sales or as a percentage of net fixed assets (since net fixed assets are expected to grow at the same rate as sales growth). Accounts payable and accrued liabilities are also expected to grow with sales. ABC’s management is interested in determining the equity value of the venture as of the end of 2013. Because ABC is in its startup life cycle stage, management and venture investors believe that 40 percent is an appropriate discount rate until the firm reaches its long run or perpetuity growth rate. At that time it will have survived and will become a more typical firm with an estimated cost of equity capital of 20 percent.
ABC CORPORATION Income Statement for December 31, 2013 (Thousands of Dollars)
Cost of goods sold -10,000
Gross profit 10,000
Operating expenses -7,500
Taxes (40%) -800
Net income $1,200
Balance Sheet as of December 31, 2013
(Thousands of Dollars)
Cash $ 1,000 Accounts payable $ 1,500
Accounts receivable 2,000 Accrued liabilities 1,000
Inventories 2,000 Bank loan 1,000
Total current assets 5,000 Total current liabilities 3,500
Gross fixed assets 5,400 Common stock 5,300
Accumulated depreciation 400 Retained earnings 1,200
Net fixed assets 5,000 Total equity 6,500
Total assets $10,000 Total liabilities and equity $10,000
A. Project the financial statements for the next four years (2014-2017).
B. Determine the value of the company using a discounted Cash Flow approach.
C. Determine the value of the company using an earnings multiple approach
D. Determine the amount of equity you should receive for a $1 Million investment.