Revision (1)

FIN 303

(1)
You founded your own firm three years ago. You initially contributed
$200,000 of your own money and in return, you received 2 million
shares of stock. Since then, you have sold an additional 1 million shares
of stock to angel investors. You are now considering raising capital
from a venture capital firm. This venture capital firm would invest $5
million and would receive 2 million newly issued shares in return.

9) The post-money valuation of your firm is closest to:

A) $12.5 million
B) $5.2 million
C) $10.0 million
D) $5.0 million
Answer
Value of No of shares Price per % of
shares share ownership
You ( the 200,000 2,000,000 0.1 40%
founder)
Angel 1,000,000
investor
Pre-money 3000,000
valuation
VC 5,000,000 2,000,000 2.5 40%
Post-money 12,500,000 5,000,000 2.5
valuation
Percentage of ownership = Number of shares owned
Total number of shares
Or
Percentage of ownership = Value of shares owned
 Total value of shares
Shares value = share price x Number of shares owned
Total shares outstanding = 2M (yours) + 1M (angels) + 2M (Venture) =
5 million shares
The venture capitalist would be paying = $2.50 per share
Therefore post-money valuation = $2.50 × 5 million shares = $12.5
million
(2)
Assuming that this is the venture capitalist's first investment in your
firm, what percentage of the firm will the venture capitalist own?
A) 50%
B) 40%
C) 25%
D) 33%
Answer: B
Explanation: B) Total shares outstanding = 2M (yours) + 1M (angels) +
2M (Venture) = 5 million shares

The venture capitalist ownership percentage = = 40%

3)
Assuming that this is the venture capitalist's first investment in your
firm, what percentage of the firm will you own?
A) 50%
B) 40%
C) 33%
D) 25%
Answer: B
Explanation: B) Total shares outstanding = 2M (yours) + 1M (angels) +
2M (Venture) = 5 million shares
Your ownership percentage = = 40%
4)
Assuming that this is the venture capitalist's first investment in your
firm, the post-money valuation of your shares are closest to:
A) $5.0 million
B) $12.5 million
C) $4.0 million
D) $2.5 million
Answer: A
Explanation: A) Total shares outstanding = 2M (yours) + 1M (angels) +
2M (Venture) = 5 million shares
The venture capitalist would be paying = $2.50 per share
Therefore your post-money valuation = $2.50 × 2 million shares = $5
million

5)
Assuming that this is the venture capitalist's first investment in your
firm, the post-money valuation of the angel investor's shares are closest
to:
A) $12.5 million
B) $4.0 million
C) $5.0 million
D) $2.5 million
Answer: D
Explanation: D) Total shares outstanding = 2M (yours) + 1M (angels) +
2M (Venture) = 5 million shares
The venture capitalist would be paying = $2.50 per share
Therefore your post-money valuation = $2.50 × 1 million shares = $2.5
million

(2)

The company is selling 500,000 shares in an auction IPO. At the end of

the bidding period, the company’s investment bank has received
the following bids (90,000 shares at $8.00 per share, 225000 shares
at 7.00 per share, 135000 shares at 7.50 per share, 150000 shares at
 7.25 per share, and 125000 shares at 7.75 per share)
Required
How much money did the IPO manager collect in coverage?

Answer

(1) Re-arrange these bids from the highest price to the lowest price :

No of shares Price Allocation

90,000 8 90000
125000 7.75 215000
135000 7.50 350
150000 7.25 500000
225000 7 775000

The price is 7.25 and the value allocated is 500,000 shares.

Luther Industries is in the process of selling shares of stock in an auction

IPO. At the end of the bidding period, Luther's investment bank has
received the following bids:

Price Number of Shares

($) Bid
$19.50 50,000
$19.25 25,000
$19.10 25,000
$19.00 100,000
$18.75 125,000
$18.50 75,000
$18.25 150,000
$18.00 240,000
$17.75 80,000
$17.50 125,000
$17.25 150,000
$17.00 100,000
$16.90 60,000
$16.75 80,000
$16.50 75,000
$16.25 200,000

6) What will the offer price of these shares be if Luther is selling 1

million shares?
A) $17.00
B) $17.50
C) $17.25
D) $16.75
Answer: C
Explanation: C)
 Price Number of Shares Cumulative
($) Bid Demand
$19.50 50,000 50,000
$19.25 25,000 75,000
$19.10 25,000 100,000
$19.00 100,000 200,000
$18.75 125,000 325,000
$18.50 75,000 400,000
$18.25 150,000 550,000
$18.00 240,000 790,000
$17.75 80,000 870,000
$17.50 125,000 995,000
$17.25 150,000 1,145,000
$17.00 100,000 1,245,000
$16.90 60,000 1,305,000
$16.75 80,000 1,385,000
$16.50 75,000 1,460,000
$16.25 200,000 1,660,000
By looking at cumulative demand, we see that a cumulative demand of 1
million shares corresponds to a price of $17.25.

7) The proceeds from the IPO be if Luther is selling 1.25 million shares
is closest to:
A) $20.6 million
B) $21.6 million
C) $21.1 million
D) $20.9 million
Answer: C
Price Number of Shares Cumulative
($) Bid Demand
$19.50 50,000 50,000
$19.25 25,000 75,000
$19.10 25,000 100,000
$19.00 100,000 200,000
$18.75 125,000 325,000
$18.50 75,000 400,000
$18.25 150,000 550,000
$18.00 240,000 790,000
$17.75 80,000 870,000
$17.50 125,000 995,000
$17.25 150,000 1,145,000
$17.00 100,000 1,245,000
$16.90 60,000 1,305,000
$16.75 80,000 1,385,000
$16.50 75,000 1,460,000
$16.25 200,000 1,660,000

By looking at cumulative demand, we see that a cumulative demand of

1.25 million shares corresponds to a price of $16.90

So proceeds = $16.90 × 1,250,000 = $21,125,000

8)
During the most recent fiscal year, KD Industries had revenues of $400
million and earnings of $30 million. KD has filed a registration
statement with the SEC for its IPO. Before it is offered, KD's
investment bankers would like to estimate the value of the company
using comparable companies. The investment bankers have assembled
the following information based on data for other companies in the same
industry that have recently gone public. In each case the ratios are based
upon the IPO price.
Comparable Price/ Price/
Company Earnings Revenues
Eenie 12.4 1.6
Meenie 14.6 1.4
Minie 16.2 1.2
Moe 20.4 0.8
17) Based upon the price/revenue ratio, what would be a reasonable
value for KD?
Comparable Price/ Price/
Company Earnings Revenues
Eenie 12.4 1.6
Meenie 14.6 1.4
Minie 16.2 1.2
Moe 20.4 0.8
Average 15.9 1.25
Taking the average Price/Revenue ratio of 1.25 × $400 million in
revenue = $500 million

Based upon the price/earnings ratio, what would be a reasonable value

for KD?
Answer
Comparable Price/ Price/
Company Earnings Revenues
Eenie 12.4 1.6
Meenie 14.6 1.4
Minie 16.2 1.2
Moe 20.4 0.8
Average 15.9 1.25

Taking the average Price/Revenue ratio of 15.9 × $30 million in

earnings = $477 million
(9)
You founded your own firm three years ago. You initially contributed
2,000,000 shares. Since then, you have sold an additional 1 million
shares of stock to angel investors. A new investor is about to raise new
capital, who agreed to invest $30 million with a post-money valuation of
$60 million for the firm.
i. What is the ownership structure after the capital raise?
ii. What is the value of shares owned by the original founder?

Answer
Value of No of shares Price per % of
shares share ownership
You ( the 20,000,000 2,000,000 10 33.3%
founder)
Angel 10,000,000 1,000,000 10 16.66
investor
Pre-money 30,000,000 3,000,000 10 50%
valuation
VC 30,000,000 3000,000 10 50%
Post-money 60,000,000 6,000,000 10 100%
valuation

10) In January 2010, the U.S. Treasury issued a $1000 par, ten-year,
inflation-indexed note with a coupon of 4%. On the date of issue, the
consumer price index (CPI) was 200. By January 2020, the CPI had
increased to 300. The coupon payment that was made in January 2020
is closest to:
A) $20
B) $30
C) $40
D) $50
Answer: B
Explanation: B) The CPI appreciated by 300/200 = 1.50. Consequently
the principal amount of the bond increases by this amount so the new
principal = $1000 × 1.5 = $1500. Therefore, with a 4% coupon and
semiannual compounding this bond would pay $1500 × .04/2 = $30
11)
In January 2010, the U.S. Treasury issued a $1000 par, ten-year,
inflation-indexed note with a coupon of 4%. On the date of issue, the
consumer price index (CPI) was 200. By January 2020, the CPI had
increased to 300. The principal payment that was made in January 2020
is closest to:
A) $1000
B) $1020
C) $1030
D) $1500
Answer: D
Explanation: D) The CPI appreciated by 300/200 = 1.50. Consequently
the principal amount of the bond increases by this amount so the new
principal = $1000 × 1.5 = $1500
12)
In January 2010, the U.S. Treasury issued a $1000 par, five-year,
inflation-indexed note with a coupon of 5%. On the date of issue, the
consumer price index (CPI) was 250. By January 2015, the CPI had
decreased to 200. The coupon payment that was made in January 2015
is closest to:
A) $20
B) $25
C) $30
D) $40
Answer: A
Explanation: A) The CPI depreciated by 200/250 = 0.8. Consequently
the principal amount of the bond decreases (for interest purposes) by this
amount so the new principal = $1000 × 0.8 = $800. Therefore, with a
5% coupon and semiannual compounding this bond would pay $800
× .05/2 = $20
13)
Antec has just issued a callable bond 3-year, 9% coupon bond with
annual coupon payments. The bond can be called at par in one year or
anytime thereafter on a coupon payment date and its face value is $1000
and YTM is 8%. Call price 1200
1. Calculate bond market value (price)
2. What is the yield to call?

(1) Bond market value

Coupon payments = face value X coupon rate
= 1000 x 9%= 90
Face value = 1000.
YTM 8%
N = 3 years
90 1 1000
0.08
x 1− +
(1+0.08 ) 3 ( 1+ 0.08 ) 3
= 883.10

(2) Yield to call

 1200−1492
90+
3
1200+1492
2 ¿
¿

14)
XY Company issued a callable bond 5 years, 10% coupon bond with
annual coupon payments. The bond can be called at 1300 in one year or
anytime thereafter on a coupon payment date, Yield to maturity is
(YTM) 10%. If you know that the par value is 1000.
A) Find the bond market price
B) Find yield to call
The solution
(1) Bond market value

N = 5 years
Coupon payments = 1000 x 10% = 100
Callable price = 1300.
YTM 10%

100
0.10
x¿ = 1000

(B) Yield to call

 1300−1000
100+
5
1300+1000
13.9 %
2

15)
Assume you have a convertible bond with a $1000 face value and a
conversion ratio of 15. If you know that the current market price of this
stock is 50, would you convert and why?
Answer:
Conversion price = 1000/15 = $ 66.67.
If the price of the stock in the market exceeds conversion price, you will
choose to convert; otherwise, you will keep the bond.
Decision: because the conversion price (66.67) does not exceed the
current market price (50) we should not convert.
16) You own a bond with a face value of $1,000 and a conversion ratio
of 45. The conversion price is closest to:
A) $18
B) $22
C) $45
D) $1,000
Answer: B
Explanation: B) Conversion price = 1000/45 = $22.22
17) If you know that the current market price of a share is 25 would you convert
and why?
Decision: because the price of stock (22.22) less than the current market price (25)
we should convert.
18) Leasing
Assume your business needs a new $20,000 machine and you are
considering leasing the machine for four years. The estimated residual
value of the machine in four years is $6000. APR is 6%, calculate the
monthly leasing payments.
Answer
1- Number of payments (n) = years * 12
2- Monthly payments i =APR/12
3- PV ( residual value) residual value / (1+ i )n
4- PV lease payments = purchase price – present value of residual value
5- Monthly lease payments (L) =
PV of lease payments
1
1+ x ¿ ¿
i

 (1+ i )n-1

1- Number of payments = 4 years *12 = 48

2- Monthly payments = 6% /12 = 0.5 %
3- PV ( residual payments ) = 6000/(1+0.005)48 = 4722.590
4- PV ( lease payments) = 20,000- 4722.590 = 15277.41
5- Monthly lease payments =
15,277.14
1
1+ X ¿¿
0.005
6- = 357.01 per month

Note = to power 47.

19)
The purchase price of an industrial lathe is $50,000. Its residual value in
five years will be (with certainty) $10,000. There is no risk that the
lessee will default on the lease. If the risk-free interest rate is a 4.8%
APR with monthly compounding, what would be the monthly lease
payment for a five-year lease in a perfect capital market?
1- Number of payments (n) = years * 12
2- Monthly payments i =APR/12
3- PV ( residual value) residual value / (1+ i )n
4- PV lease payments = purchase price – present value of residual value
5- Monthly lease payments (L) =
PV of lease payments
1 1
1+ x (1− )
i ( 1+i ) n−1
Answer
1- N = 5*12= 60
2- 4.8% /12 = 0.004
3- PV of residual value = 10,000/(1+0.004)60 = 7,870.04
4- PV of lease payments = 50,000-7,870.04= 42129.96.
5- Monthly lease payments =
42129.96
1
1+ x¿¿
0.004
20) Suppose that you purchase your machine 20,000 by borrowing the
purchase price using a four year annuity loan. What would the monthly
loan payment be in the perfect market where the risk free interest rate is
a 6% APR with monthly compounding assuming no risk of default?
How does this compare with the lease payments?
Steps:
1- Number of payments (n) = years * 12
2- Monthly payments i =APR/12
3- PV ( lease payments ) = purchase price
 4- Monthly lease payments (M) =
purchase price
1 1
x (1− )
i ( 1+i ) n
(1+ i) n
1- 4 years *12 = 48
2- Monthly payments = 6% /12 = 0.5 %
3- PV(lease payments) = 20,000
4- Monthly lease payments =
20000
1
0.005 (
x 1−
1
(1+0.005)48 )
= 469.60 per month.

While the lease payments are lower, with the lease, we have the use of
the lease of the machine for four years only. With the loan. With the
loan we own the machine for its entire life.

21) Compute the lease payments for the machine if the lease is a $1 out
lease.
1- 4 years *12 = 48
2- Monthly payments = 6% /12 = 0.5 %
3- PV(lease payments) = 20,000
Monthly lease payments =
20000
1
0.005 (
x 1−
1
(1+0.005)47 )
= 467.36
These payments are slightly less than the loan payments of 470 per
month calculated previously because lease payments occur at the
beginning – rather than the end- of the month.