[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)

Sales                                        $20,000

Cost of goods sold                  -10,000

Gross profit                             10,000

Operating expenses                  -7,500

Depreciation                                  -400                                             

EBIT                                           2,100

Interest                                                      -100

EBT                                             2,000

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.