CHEAT SHEET FIN3321 EXAM 2

Smllh Brotners Inc., sold 7 million shares in . at a price of $19.15 per share. Management negotiated a fee (the urrdarwriting spread) qf 10.2% oq this transactiom What was the dollar cost of this fee? A ( % You have started a company and are in luck—a venture capitalist has offered to invest. You own 100% of the compan illion shares. The VC offers $1.22 million for 855,000 new shares. ? c. Whanfagtion;of the firm vl jSEGHRERERi)e iavestmEit? 2D a. Whatis the implied price per share? To calculate the total dollar value of the IPO, use the following formula To determine thlifiplizgpsicapenshare. use the following formula: VC Offer Price = Number of shares Therefore, . IPO Value = Price per Share x Number of Shares Therefore, IPO Value = $19.15 per share x 7 million shares = $134.1 million The total dollar value of the IPO was $134.1 milllion Your investment bankers price your IPO at $16 50 per share for 12.0 million shares. If the price at the end of the first day of trading is $18.30 per share, a. what was the percentage underpricing? b. how much money did the firm miss out on due to underpricing? The underpricing is the difference between the price at the end of the first dav of tradina and the IPO price Fetton Pudlisning recenty completed ts IPO. The stock was offered at §13 13 per share. On the first day of rading, the stock closed at $18 61 per share a.What was the intialreturn on Felton? benefited from this underpricing? Who lost, and why? Underpricing = $18.30 - $16.50 = $1.80 As a percent of the offering price, the underpricing is $1,220,000 855,000 shares Price= $1.43 per share To determine the cost of the underwriter fees, use the following formula P f Unds Underpricng . What was the it etun on Feton? ercentage of Underpricing = —————— W I tuf 9 PreNI =155 Price The intialrefum was 417% (Round 1o one decim Therefore, b. Wno benefited from this underpricng? (Select the best choice below ) $180 ¥ A Investors who bought shares at the IPO price of $13 13/share and investment banks (indrectly from future business) Percentage of Underpricing = 31650 - 10.9% - 9 P s Wi [ b. how much money did the firm miss out on due to underpricing? Owners of other shares outstanding (not part of the IPO) and underwriters The company and cwners of other shares outstanding (not part of the IPO) Underwriting Fees = IPO Value x Underwriter Spread b. What is the post-money valuation? T ine the post. . Therefore, , use the following formula: Underwriting Fees = $134.1 million x 0.102 = $13.68 million Post-money Valuation = Implied Price per Share x New Total Number of Shares Therefore, The cost of the underwriter fees was $13.68 million The company and underwriers To determine the amount of the forgone money, use the following formula Who lost? (Select the best cho Forgone Money = Underpricing x Number of Shares o below ) ¥ 5 Owners of other shares oulstanding (part of the IPO) Therefore, Forgone Money = $1 80 per share x 12.0 million shares = $21.6 million Both of the above. Owners of other shares outstanding (not part of the IPO) Investors who bought shares at the IPO price of $13.13/share and investment banks (indrectly from future business) — Starware Software was founded last year to develop software for gaming applications. The founder initially 5 RostsmoneyaMaluationi= $1.43 per share x 6,555,000 shares = $9,373,650 invested $850,000 and received 7 million shares of stock. Starware now needs to raise a second round 3w £ o (Salect the best choice below of capital, and it has identified a venture capitalist who is interested in investing. This venture capitalist will >0 4 g2 . . B invest $1.50 million and wants to own 33% of the company after the investment is completed. 2% £ 2 The orignal sharehokdars who particpated i the [P0 soid shares below what e market was wiling to pay c. What fraction of the firm will you own after the investment? a. How many shares must the venture capitalist receive to end up with 33% of the company? What is the €8 % i - : : e ven 8 5= o orignal sharehokders who paricpaled i the IPO soid shares at what the market was willng 10 pay. implied price per share of this funding round? B 3§ To ine your ip, uuse the following formula: b. What will the value of the whole firm be after this investment (the post-money valuation)? % 0 2 > = : The onginal shareholders who particpated i the IPO $01d shares above what the market was wiling to pay. = N > S RBe * None of the above Fractional O . Original Number of Shares : =0 =8 g ractional p= . . i . 2 ] New Total Number of Shares To determine the number of shares the venture capitalist must receive, use the following formula ) g § z A alia it gy Number of Your Shares = Total Number of Shares x (100% - VC's Percentage) 28w S 2 g pemanenty mng.s s leverage fom no debi by taking on new uem e sl 375l g 783 s 3 Pl & F =g g 28 2 @ g Therefore, After the funding round, the founder's 7 million shares will represent 57% ownership of the firm. To solve for ” § E 8wl B £ £ 8 siaE (o Rrg Py @ the new total number of shares (Total): 7,000,000 shares = 67% x Total RoE o223 B 2 3 3 S 3 g g g H < 5 5,700,000 shares 055 B0 l o o ¢ LSSt S e 5 ——————————=(.8696=86.96% Therefore, Total = 10.448 million shares. If the new total is 10.448 million shares, and the venture capitalist =0 SO L Pln (LIS F ] Bk < -3 6,555,000 sh: 56 20 Log gL i s ,555,000 shares will end up with 33%, then the venture capitalist must buy 3.448 million shares. (Jpefia pa g i i e . g 3 s 3 £ 5 ¢ ] 8 € 5 s g 8 B 2 & 3 o a To determine the implied price per share, use the following formula s 3 % S % & PVinterest Tax Shield)= T, xD 50 3” 2 3" ] 2 H e . e i dari ] ™~ e o 4 g The firm you founded currently has 18 million shares, of which you own 9 million. You are cor g an prige - [Tvestment Amount 3 § s > ‘E-; 3 where T, i the marginal corporae tax ate and D s the amount of debt. { § 0§ 2§ g T g = 8 million shares for $24.50 each. If all of the shares sold are prim: ares, "1 = Number of Shares §> b RE> - S g ol E 2 3= E ? Whi 2 o= i ® = 0 g & Ll raisps Therefore, T o : D 3§ Usethe formula given above to compute the present vaue of thetax shield o 2 § i FA 8 2@ - 5 S > X = $1.50 milion 52 E S5 L Thebors 2 T 5 K Iy Price = =——=——=50.44 %S 3 235 2 e © @ = 448 million 8 2 P S 5 |V (terest Tax Shieid)l 35% x(5310x13.7%)=514.85 biion % 8 -x =z 2 g === 2 e ® g o = Given the investment of $1.50 million for 3.443 million shares, the implied price per share is $0.44. g Es i The present value of the tax shield is $14.85 § g & ES 0= 2> EEES . F ] a . N . . b. What will the value of the whole firm be after this investment (the post-money valuation)? © a3 B o 3 Evives: a 3 = 2 5 To calculate the amount the firm will raise, multiply the number of shares sold by the selling price. i i A = 8 g O3 S Weknowthatin perfect capital markets, financing transactions have an NPV of zero. However, the 2 4 Ei To determine the post-money valuation, use the following formula. g 5« 5 @ £ interesttax ded\minlny makes this a positive-NPV transaciion for the fin. The total value of the leverec g i z 5 2 OD i [ from deb P g Therefore, Post-money Valuation = Price per Share x Number of Shares >2% S g T b o e s ekte b 1 e bt e 9 amvimi on S g ; . ; Thersfore 258 6% z g =4 million x$24.50 =$98.0 million ¢ = o8 s $ g H Post-money Valuation = $0 44 x 10 448 million =34 597 million s£@ 850 a ? < ~ 8 g’ . . o - 20 g < © = ECE =) If the firm sells 4 million primary shares at $24.50 each, the firm will raise $98.0 million. After this investment, there will be 10 448 million shares outstanding, with a price of $0.44 per share, so 2o5, I35 w = S g 2 the post-money valuation is $4 597 million § 3 29 2 £E2 Qa 2 * z e g The total number of shares outstanding after the IPO will be 22 million. To determine the percentage that R b e 2 e 2 Zs = z + e & g '3 < you own, use the following formula: h Swpose e oo and oy 1 1t i s idndsach et w»an:mu-mvime»mseqnw 5 §23 ; 280 Q = 3 a8 i 0 per year. What s SEE g9 wl+ ) 5 «. What F " € o N L, < et S§22 858z luw g ¥ 8 . g 8 w Number of Shares You Own _ / 0 - 8 ;82 o058 W S vé S 2 S S—_— E 3 Lo w X % S = P= ~Total Number of Shares Y} <2 :g sEL: u L L B . g Net Income « $5 500 (1 - 37 %) - 53,465 e Re gnge S gillio ; g g Therafare Th ke f et e f e e i 5365 EZoe oty £ §2 Ll H H ] . i~ f @ 2 2ile i 2 Hardmon Enterprises is curently an all-equity firm with an expected retum of 17.25%. Itis considering a leveraged recapitalization in which it would borrow and repurchase existing shares. Asgime ™ 2 find the valus of the equiy, use the fofloving formida 3338 & 2 g R > g o o 3 capital markets. oty Vo= EREC S Fiow LELS =L = = 13 . Suppose Hardmon borrows to the point that its debt-equity ratio is 0.50. With this amount of debt, the debt cost of capital is 7%. What will be the expected return of equity after this transactiof? “ Costof Captal b. Suppose instead Hardmon borrows to the point that its debt-equity ratio is 1.50. With this amount of debt, Hardmon's debt will be much riskier. As a result, the debt cost of capital will be 9% ¥ 4 - expected retun of equity in this case? Thersfors. Pelamed Pharmaceuticals had EBIT of $525 million in 2010. In addition, Pelamed had interest expenses of $236 million and a corporate tax rate of 37% N P . . . . a. Whatis Pelamed's 2010 net income? i . o f . Asenior manager argues that itis in the best interest of the shareholders to choose the capital structure that leads to the highest expected return for the stock. How would you respond to thiglarg! S s! o b. What i the total of Pelamed's 2010 net income plus interest payments? Miton Industries expects freaicash flows of $22 million each year. Milton's corporate tax rate is 37%, oty Valoo = - c. If Pelamed had no interest expenses, what would have been its 2010 net income? How does it compare to your ansy and ts unlevered cost of capital is 17%. Milton also has outstanding debt of $63.41 million, and it iho fem e valos of 538500 d. Whatis the amount of Pelamed's interest tax shield in 20107 Expects o maintain “‘i's level of debt permanently a. What s the value of . Suppose Hardmon borfows to the point that fs debt-equily rato Is U.5U. With this amount of debt, the deDt cost of captal s %. What wil be the expected return of equiy arter this transactiof? < b. What is the value of 51,500 por yoar of dabt? _ o - C0ane - To compue the expectd reum of equiy,use the follwing formla: Net Income = (§525 million - $236 million) x (1- 0.37) = $182 million The 2010 net income s $182 million. Hetincome - EAIT-lnfesed Expense = Taxes a. What s the value of Milton Industries without leverage? P . (1) Thersfore. b. What s the total of Pelamed's 2010 net income plus interest payments? E . To find the value of Milton Industries without leverage, use the following formula Mot bcomes = (35,500 - 1,500) (1 - 37%) = 52,6528 To find the total net income plus interest expense, use the following formula: 9 9 $15001s 82520 where i : Total Net Income and Interest Expense = Net Income + Interest yUo__fFreeCashFlow N ) Then. 10 fnd the vakus ofth oquy, use the following formia . Unlevered Cost of Capital - erefore, e Expectedretum (coto capia ) oflevered equity. Interest Payment = Debt xInterest rate where: Iy = Expected retumn (cost of capital) of unlevered equity Total Net Income and Interest Expense = $182 million + $236 million = $418 million To determine the value of debt, D, use the following formula: fy = Expected retum on debt D = Market value of debt E = Market value of levered equity Interest Payment Using the formula above, the equation is: rg=17.25%+0.50 % (17.25% - 7%) = 22.38% The expected retum is 22.36% If the firm makes interest payments of $1,500 per year, the value of debt is $16,667. d. To what percentage of the value of the debtis the difference in part (c) equal? b. Suppose instead Hardmon borrows to the point that its debt-equity ratio is 1.50. With this amount of debt, Hardmon's debt will be much riskier. As a result, the debt cost of capital will be 9%. [Vhat wi To find the value of the firm with leverage, use the following formula expected retum of equity in this case? . - V=E+D ™ } W %, Using the formula above, the equation is: \ Therefore, 1= 17.25%+1.50 x(17.25% - 9%) = 29 63% QO c ¢ VF=528000+516,667=544667 \, \,d - -t The expected return is 29.63% The value of the firm with leverage is $44,667. — . Asenior manager argues thatits in the best interest of the shareholders to choose the capital structure that leads to the highest expected retum for the stock. How would you respond to thifargum: To find the value of the firm without leverage, False, because retums are higher because risk is higher and the retum fairly compensates for the risk. The total of Pelamed’s 2010 net income plus interest payments is $418 million. VY =value of firm without leverage c. If Pelamed had no interest expenses, what would have been its 2010 net income? How does it compare to your ansy Therefore, To find the net income if there were no interest, use the following formula: Net Income = EBIT - Taxes Therefore, Net Income =$525 million X (1 - 0.37) = $331 million The 2010 net income would be $331 million. ‘The 2010 net income with no interest expense is $149 million higher than the 2010 net income with interest expense, Difference = Net Income without Interest Expense — Net Income with Interest Expense Difference = $331 million - $182 million = $149 million d. What is the amount of Pelamed's interest tax shield in 20107 To find the interest tax shield, use the following formula: in the value of the unlevered equity found in part (a), therefore the value of the firm without leverage is $38 500 522 million V= 017 =$129.41 million The value of Milton Industries without leverage is $129.41 million. b. What s the value of Mitton Industries with leverage? To find the value of Milton Industries with leverage, use the following formula: v =Y 4 PV(interest Tax Shield) where: £ =value of firm with leverage and PV(Interest Tax Shield)= 7o xD Therefore, v =$129.41 million +0.37 x $63.41 million ¥ $152.87 million The value of Milton Industries with leverage is $152.87 million s} uo 1saselul 90} sked pue ‘9 /¢ Jo ajes xe) ajesodiod B ‘G| 1o ones Ainba-1gap 1eyiew e sey sispjing pwwng