Question

In: Finance

You are an analyst for a venture capital fund.  The firm you are valuing is expected to...

You are an analyst for a venture capital fund.  The firm you are valuing is expected to have free cash flows next year of $1,000, and they are expected to grow at 4% every year forever (if they survive).  Further, using CAPM and accounting for the fees that your VC charges, the cost of capital for the firm is 23%.  What is the value of the firm, assuming it survives?

$813

$5263

$961.54

$25000

A rival VC fund put in a bid for the firm. They are offering to invest $100 for 16.67% of the firm. What is the implied pre-money valuation? What is the implied probability of survival for the firm?

100 ; about 25%

300 ; about 15%

500 ; about 10%

700 ; about 75%

Solutions

Expert Solution

Value of Firm = Free cash flow to the next year /(Cost of Capital - Growth rate)

                         = 1000/(23%-4%)

                         = 1000/19%

                         = $5263.16 ie $5263


Post Money Valuation by rival VC Fund = Investment / Expected return

                                                                      = 100/16.67%

                                                                      = $600

Pre Money Valuation = Post Money valuation - Investment

                                      = $600 - $100

                                      = $500

For calculating probability of survival lets take probability of survival = p

Probability of non survival = 1-p

In the case Firm survives its value is 5263, and in case it does not survives its value can be taken as zero.

Value taken by rival firm = (Survival Value x p) + Non survival Value x (1-p)

$500 = ($5263 x p) + 0 x (1-p)

p = $500/5263

p = 0.09500285 i.e. 9.51% that is approx 10%

So, answer is 500 ; about 10%


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