week 5 DBA820 12-6-2023 _BeAZpkq

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Nov 24, 2024

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1 DBA-820 Integrated Case Study xxxx xxxxx xxxx xxxx xxxx

2 Abstract ABCTech is currently facing a cash flow crisis, and the founders must decide whether to take a $250,000 loan or accept a $500,000 buyout. This paper provides a research, financial, and ethical analysis of each potential resolution and concludes by offering a recommendation. Analysis indicates that a $250,000 loan to help grow the business is more viable as it will allow the organization to achieve its vision and mission and create employment opportunities. Financial analysis indicates that ABCTech can quickly secure $250,000 based on the current financial metrics and that accepting a $500,000 buyout would be a loss since the company could be worth more. However, the decision comes at a substantial risk since business failure could lead to massive losses for the owners. Thus, the founders must also engage in sound financial management and make wise investment decisions to minimize the risk of business failure.

3 Current Environment ABCTech is a startup technology company that offers unique security solutions different from anything else in the market. ABCTech operates in a competitive software security market dominated by big players focusing on consumer and business markets. However, ABCTech has developed a unique and innovative security product that has received positive market reception. The company is on track to post $250,000 in revenue in the first year of operation, demonstrating good market penetration. The company also projects positive revenue growth, and the partners believe the the company valuation will soar into millions of dollars over the years. The local economy is assessed as favorable to the company's support and growth, and the owners believe that revenue may double over the next year to $500,000. Summary of Business Issue Like any other startup, ABCTech faces challenges common to startup organizations. Such challenges include a lack of enough cash flow and capital for growth and expansion, a lack of talent, and a lack of business acumen. Firstly, ABCTech faces significant financing challenges that limit its ability to fulfill consumer orders and expand business operations. Despite raising over $250,000 in revenue, the company has higher operating expenses, a similar challenge faced by startups (Yec, 2023). With a net profit of $29,516, the company is experiencing a high ratio of expenses to revenue. Secondly, the company needs new employees. Thirdly, the company founders Thompson and Christianson lack prior entrepreneurship experience to run the business and must thus hire new talents. However, limited resources make it difficult for the company to attract and retain talent. The company founders are exploring two financing decisions that can help improve cash flow and hire additional staff. The first option is to borrow a $250,000 loan to assist the business

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4 in surviving until it yields more revenue to sustain operations and growth strategies. However, while reviewing this option, the founders are worried that the higher operating expenses to revenue ratio could discourage lenders from offering them credit. The founders are also considering selling the firm for $500,000 to a large, well-established software company. The buyout would ensure ABCTech survives the cash crisis, make the owners moderately wealthy in the short term, and provide them with employment. Potential resolution 1: Procure a $250,000 Loan Research Support for Resolution One Debt funding is one of startups' most common and utilized funding strategies. The pecking-order hypothesis of capital structure indicates that the company must first try to finance their investment using internal funds, then debt and equity (Naranjo et al., 2020). The theory suggests that debt financing is attractive since ABCTech lacks internal funds to finance operations. Furthermore, studies demonstrate that most startup ventures financed by debt during their initial years of operation are more likely to survive and achieve higher revenues within three years than those funded by equity (Castaldo et al., 2023). Startup companies with more debt also experience higher valuation during their initial public offer (IPO) as it signals to investors that the company is confident in its future growth prospects and the ability ability to generate cash flow to cover its debt obligations. Financial Analysis for Resolution One Various financial metrics can help predict ABCTech's appeal to lenders and the probability of getting a $250,000 loan at a lower interest rate. The company's working capital represents its ability to meet its short-term obligations, such as paying suppliers and employees.

5 ABCTech's working capital of $161,516 ($462,516 - $301,000) may raise concerns to lenders considering the company is seeking $250,000. However, the working capital ratio of 1.5 ($462,516/$301,000) is favorable as it indicates that ABCTech has sufficient current assets to fulfill its short-term debts without relying on external funding. Thus, ABCTech has a better liquidity ratio that could appeal to lenders. Profitability and leverage ratios are also vital in credit analysis (Corporate Finance Institute, 2023). Profitability ratios help lenders determine the company's growth rate and ability to repay loans. ABCTech has a net profit margin of 11.8% ($29,516/$250,000), which indicates that the company is healthy (above 10%) and profitable. Since most startup companies often record losses for the first five years of operation (Castaldo et al., 2023), reporting a profit during the first year is a positive sign for ABCTech. Leverage ratios also help lenders analyze the company's ability to pay its debts. ABCTech has a leverage ratio of 2.217, a debt-to-asset ratio of 0.5, and a debt-to-equity ratio 1.109. The ratios indicate that the company has more debt financing but is not overleveraged. The leverage ratios indicate a moderate debt, considering ABCTech is a startup. The financial analysis shows that ABCTech can secure a $250,000 loan at a lower interest rate. The company has good profitability, liquidity, and moderate debt levels. The partners should also strive to develop strong relationships with financial lenders and pitch their business ideas and vision. Furthermore, the partners must shop for the best loan terms before deciding. Potential resolution 1: Accept $500,000 Acquisition Research Support for Resolution Two Startup Genome report indicates that over 90% of startups fail (Schroeder, 2023). Buyouts are fairly common exit strategies for buyouts as they help ensure owners do not bear all

6 the business risks. Moro-Visconti (2022) notes a higher demand for tech startups. Startup acquisitions can help enhance sustainability for small startups and ensure their products reach a broader market within a short period. Buyouts also offer startups the necessary funding, expertise, and infrastructure to scale their operations. Financial Analysis for Resolution Two One of the significant challenges facing startup acquisition is appropriately valuing the firm. Valuation of startup firms is often based on multiple probabilistic scenarios that involve various assumptions, potentially increasing the risk of overvaluing or undervaluing the company (Moro-Visconti, 2022). One of the most common valuation strategies is the discount cash flow (DCF) analysis, which considers the company's growth potential. Assuming a discount rate of 14% (same as the current cost of capital), a growth rate of 20%, a net profit margin of 15%, and a terminal growth rate of 3%, the total valuation for ABCTech based on five years free cash flows is $1,029,092.47. The value could also be higher based on the underlying assumptions, such as considering cash flows for 10 years. However, due to challenges in estimating the terminal value, the book value can also be used to determine the company's value. Using the book value approach, ABCTech would be worth $602,016, higher than the $500,000 buyout. Both analyses reveal that the buyout offer is slightly lower than the firm is worth, although the valuation is based on some assumptions that would not always be realistic. Ethical Impactions for Resolution One Securing a $250,000 loan would ensure business continuity, create employment opportunities, and positively impact the world. The loan would also enable the business founders to achieve the business mission of creating affordable computer security products for everyone

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7 and the vision of protecting the world from cybercrime and personal breaches. However, taking a loan has a higher risk of business failure, which could prevent the company from achieving its mission and vision. Business failure could also lead to job loss and dishonoring commitments to consumers. Ethical Impactions for Resolution One Big-tech companies often use buyouts to stifle innovation and stop emerging market competitors (Prado & Bauer, 2022). There is a higher probability that the acquiring company could shelve ABCTech innovations or deviate from the company mission, thus preventing the founders from achieving their mission and vision. As employees of the acquiring firm, Thompson and Christianson could be fired and legally prohibited from launching a product similar to what ABCTech was offering. Lastly, the acquisition could involve transferring confidential consumer information to the acquiring company, further violating customers' and ABCTech's core values of honesty, integrity, and safety. Recommended Resolution: Resolution One Rational for the Resolution Based on financial and ethical analysis, Thompson and Christianson should take a $250,000 loan to finance business operations. The recommendation is supported by literature as most successful startups are often funded by debt during their early years of operations (Castaldo et al., 2023), and debt financing is cheaper than equity financing. Financial analysis indicates ABCTech could quickly secure a $250,000 loan with low interest rates, provided the partners create relationships with lenders and convince lenders of the company's growth potential. Accepting $500,000 would be a loss since the company has more value and potential and could

8 be worth millions in the next few years. Furthermore, debt financing allows the partners to pursue equity financing through an initial public offering (IPO) once the company has stabilized. The recommendation is also consistent with the founder's mission and vision and could help the company positively impact the world. The resolution would help improve the company's cash flow by $250,000 and thus help generate $500,000 in revenue in the next year. The company could benefit from a low interest rate and a longer repayment period that would ensure low-interest payments. The loan would increase the debt ratio and financial leverage, adding further financial risk if the company fails to generate the anticipated sales. However, the resolution would improve liquidity, revenue, and profitability, allowing the founders to pursue a growth strategy. Future Research Needed More research is needed on the viability of the assumptions made during the decision- making process. The decision could benefit from prior knowledge of interest rates that ABCTech would be charged for the loan offer, future economic and market performance for tech products, and growth potential. The current decision is based on a 20% growth potential, which could be too high or too low for the company. Future research on growth potential, SWOT analysis, and risk analysis could help the founders gauge the risks of continuing to grow the business and taking a buyout offer. Conclusion ABCTech faces a critical decision that will significantly impact its future and ability to achieve its mission and vision. A $250,000 loan is optimal as it will allow the founders to continue growing the business. However, the decision comes at a substantial risk since business

9 failure could lead to massive losses for the owners. The company must thus carefully manage its finances and make wise investment decisions to achieve its long-term goals.

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10 References Castaldo, A., Pittiglio, R., Reganati, F., & Sarno, D. (2023). Access to bank financing and startup resilience: A survival analysis across business sectors in a time of crisis. The Manchester School , 91 (3), 141–170. https://doi.org/10.1111/manc.12433 Corporate Finance Institute. (2023, October 27). Credit Analysis Ratios . https://corporatefinanceinstitute.com/resources/commercial-lending/credit-analysis- ratios/ Moro-Visconti, R. (2022). The valuation of digital startups and fintechs. In M. Cham (Ed.), The Valuation of Digital Intangibles (pp. 189–235). https://doi.org/10.1007/978-3-031-09237- 4_6 Naranjo, P. L., Saavedra, D., & Verdi, R. S. (2020). The Pecking Order and financing Decisions: Evidence from Changes to Financial-Reporting Regulation. Journal of Accounting, Auditing & Finance , 37 (4), 727–750. https://doi.org/10.1177/0148558x20945066 Prado, T. S., & Bauer, J. M. (2022). Big Tech platform acquisitions of startups and venture capital funding for innovation. Information Economics and Policy , 59 , 100973. https://doi.org/10.1016/j.infoecopol.2022.100973 Schroeder, B. (2023, June 15). How to avoid being in the 90% of entrepreneurial startups who fail. Six insights on how to find real problems. Forbes . https://www.forbes.com/sites/bernhardschroeder/2023/06/15/how-to-avoid-being-in-the- 90-of-entrepreneurial-startups-who-fail-six-insights-on-how-to-find-real-problems/? sh=66107e4c6564

11 Yec. (2023, January 13). What challenges do startups face and how can you overcome them? Forbes . https://www.forbes.com/sites/theyec/2023/01/13/what-challenges-do-startups- face-and-how-can-you-overcome-them/?sh=395e1dd1772c Review comments in attached graded paper. You have met the word count of 1,500-1,750 words. You have an introduction that states the purpose of the paper. You have included a summary of the environment; summary of the business issue; financial concerns; included at least two viable potential resolutions with some resource supporting and financial discussion and analysis; some research supported ethical implications is provided for each option as influenced by core values the mission, vision; a suggested resolution with research supported suggested resolution chosen from the potential resolutions and rationale for the chosen resolution; little discussion on how the resolution influences the profit/loss statement and other financial criteria and statements; some discussion of future research that you could conduct relative to these issues. You have included at least three references that are