CAPSIM

That's good to hear. Could you give me just a quick estimate, based on the balance sheet? a. It looks as though it would be somewhere above $110 million, but below $125 million.

Assuming synergies with Inverness Medical after an acquisition, it would likely be well over $100 million. Of course, this would have to be a dynamic estimate, with discounted future income streams. In that sense, the potential is infinite. i. 1500000000-45000000=105000000 > 100000000

1. Could you get me an expected operating cash flow for Inverness? This won't be binding but gives us an idea of the cash situation net of the acquisition. Figure net income is $1,105,000, depreciation is $500,000, the increase in accounts receivable is $300,000, the increase in inventory is $200,000, the increase in accounts payable is $390,000, and other adjustments are too small to factor in now.

Eric, It looks as though, with the information that we have, we're looking at about $1,495,000 for the year, if conditions hold. 1105000-500000+300000+200000+390000

1. If we go ahead with the acquisition of Digby, the transaction will likely take place in about eight months, assuming all goes well. As of this morning, shares of Digby were priced at $52. As you know, Digby shares have a history of very low price volatility. We're hoping to acquire 51% of shares. What should we expect to have to pay later, if the deal goes through?

Eric, We'll almost certainly need to assume a premium of maybe 10%, so let's estimate $56. Eric, There's no benefit unless we get Digby for cheaper than the market prices it. Let's offer $45 per share.

We're finished with any new major projects or investments in the foreseeable future, and our industry sector is extremely stable, but I want to make sure that we're liquid enough to withstand sudden expenses. Our market share is rather small, and we have about 300 days of working capital. We expect to continue having a modest positive annual income over the next decade. We can get either a long-term or a short-term loan. The long-term loan has a slightly higher interest rate than the short-term one, but the Short-term will have to be renewed annually. What should we do?

Given your financial stability and already high liquidity, you should investigate opening a line of credit, and use it only if necessary.

Yes, the book value will do. At present I havent' access to the income statement, and net worth is basically what I am interested in. We're in the very early stages here

The book value is total assets minus total liabilities or $105,000,000

I''d like a valuation of Tetragen, based on the latest balance sheet on the drive. Does this look as though it's greater than $90 million?

YeWell, it depends. Do you want a book value, or should I base it on something else, like expected income streams? I'll need a pro forma income statement or some other document.

1. I hear that you're working with Arturo about options, and I had a question for you. Shares of Hudson Bariatric are trading today at $38.54. Right now, a call option for Hudson Bariatric with a deadline three months from now, with a strike price of $36 is selling for $3.35. What is the time value of this option?

a. $.81 i. Intrinsic value = current stock price - strike price 1. 38.54 - 36 = 2.54 ii. Time value = option premium - intrinsic value 1. 3.35-2.54=0.81

1. Eric suggested that we cover a cash flow squeeze by borrowing $300,000 for nine months at 6% simple interest. If we do that, how much altogether will we pay back at the end of nine months?

a. $313,500 i. Simple interest= principal * rate * time 1. 300000*.06*.75 + 13,500 ii. Total = simple interest + principal 1. 300000+13500=313500

1. I'm helping Brad Grimes put together a strategic planning document for Inverness Medical for next year. I'm expected to report the expected level of sales for next year, but l've been given three answers. HQ says that sales will be $4.8 million if the economy is good, $4.5 million if the economy is steady, and $3.9 million if the economy is weak. I asked what they thought would happen, and they said that there's a 25% chance the economy will strengthen, a 55% probability it will remain the same, and a 20% probability that it will weaken. What should I report?

a. $4.455 million i. Expected sales = (4.8 million * .25) + (4.5 million * .55) + (3.9 million * 0.20) 1. 1.2 + 2.475 +.78 2. 4.455 million

1. Emily, I want to get a handle on the market value of Digby Enterprises. There are 8,000,000 shares outstanding, valued currently at $52 per share. Digby has a net debt load of $9,000,000 and expects a net profit of $5,000,000 this year. What's Digby's market capitalization?

a. $416,000,000 i. 8000000*52

1. At present, Inverness Medical owns 3000 shares of Hudson Bariatric stock. We initially purchased them at $200 each, and they paid annual dividends of $4 each. Now, we've owned the stock for two years, and the share price has risen to $250, although the dividend has not changed. What is the current dividend yield on Hudson Bariatric stock?

a. 1.6% i. Dividend yield = (annual div. per share / current mkt price per share) * 100 ii. (4/250) *100

1. Aaron wanted to know the cost of capital while we're looking at acquisitions and some other new investments this year. The trouble is, I used to just give him the interest rates for long- and short-term loans, but now we're looking at a mix of capital sources. The cost of debt after tax is 5%, that of preferred stock is 12%, and retained earnings is 14%. The mix of capital supplied would be as follows: Debt is 20%, preferred stock is 15%, retained earnings is 65%. What would be the cost of capital under these conditions?

a. 11.9% i. WACC = (Cost of Debt × Weight of Debt) + (Cost of Preferred Stock × Weight of Preferred Stock)+(Cost of Retained Earnings × Weight of Retained Earnings) ii. (0.05×0.20) +(0.12×0.15)+(0.14×0.65) = 11.9%

1. Thanks for your response. Those returns were attractive, but I think that they might be too risky. What would our returns be if we were to choose the safest plan for asset financing for Inverness Sensing Products?

a. 3%

1. Thanks for the response. What would you say is the enterprise value, then? Recall that Digby has 8,000,000 shares of stock outstanding, each of which is valued at $52. Digby has a net debt of $9,000,000 and made $5,000,000 in net income this year.

a. 416 million i. 8,000,000*52 = 416,000,000

1. Inverness is considering a greenfield investment in South America in a location expected to experience fairly high inflation over the next few years. Is there something that we should take into account in particular for this investment decision?

a. Along with the more rigorous methods, you might consider a payback period for this.

1. Baldwin is in an industry with an average profit margin of 8.5%. How did Baldwin stack up against that last year

a. Based on last year's performance, Baldwin did really well. Their profit margin was 13%. i. 1058600/8100000

1. We're discussing the pricing of some of our products to a large Australian customer for next late next year, and the customer mentioned the fact that interest rates are higher there than they are here. Why might this be an issue?

a. Because of the International Fisher Effect, this may indicate an appreciation of our currency over theirs next year, which could affect pricing.

1. Somehow, word has gotten out about the acquisition of Digby this fall! I don't know whether you're aware of what's been happening on Wall Street today, sitting down there in your office, but the price for Digby has risen 6% in the last hour. THE LAST HOUR! Did you know that Digby hasn't risen that much in one day in three years? What does this mean for our offer price? Or is the deal going to be off now.

a. Eric, Our offer should remain firm for now. Speculation is based on what we might pay, but not on the intrinsic value of the company. Plus, these price bubbles that come from rumors disappear as rapidly as they appear.

1. I'd like to discuss a potential new client with you. I know that your plate is pretty full now, but their situation and their industry seem to fit your specialization really well, and I think that you might be the best to handle the project. Could we talk about it over lunch tomorrow?

a. I'll call you about it tomorrow morning

1. OK, I'm not sure how I feel about that. Tell me this, in the worst-case scenario, how much will it cost us to honor those put options?

a. In the worst-case scenario, the value of the firm drops to zero, and we'll be forced to purchase shares at the strike price of $44 for every share we're contracted for. Since puts are sold in lots of 100 shares, it'll cost us $4400 for every lot, and we'll be buying a worthless firm.

1. I heard that you are advocating raising capital via new stock issuance. You might want to bear in mind that Sarah Yang and Eric Patel are both primarily compensated through stock options, and earnings per share might well diminish with a higher number of shares.

a. Isaac, you're correct in the short term, but the capital raise is for investments that can improve the value of the company overall, so they can eventually benefit from this too

1. I spoke informally to a couple of board members about the project, and although they're excited about the potential returns, they brought up the amount of leverage that Hudson Bariatric already has. I want to give them the payback period. How long will that take? The initial outlay for the equipment is $1,200,000. The projected increase in revenue is $485,000 annually, while costs will increase $210,000. Depreciation will utilize the straight-line method.

a. It will take just over four years. i. (initial outlay/annual net cash flow) ii. Annual net cash flow = revenue increase - cost increase 1. 485000 - 210000 = 275000 iii. 1,200,00/275,000 = 4.36 yrs

1. Given that Digby is fairly pricey, perhaps we should consider financing the acquisition via a one-for-one equity swap. In other words, we'll issue two million more shares of stock, and trade those for 100% ownership of Digby. What's one implication of that move, if we decide to do it?

a. It would not increase our current debt load but would dilute the value of our current shares.

1. The US dollar is weakening against the Australian dollar. This is going to hurt our exports to Australia, won't it?

a. Mike, The weakening of our domestic currency against that of our customers will actually help our revenues.

1. Quick question. Is there a way of raising capital through a secondary stock issuance without diluting control? The founder of the company owns 60% of the shares and has voiced her desire to retain control.

a. One way is by issuing only non-voting shares in the future. This may raise less capital, however, if potential buyers want the vote with their shares.

1. Our leverage is moderate, so we can borrow at pretty good terms if we need to. On the other hand, we could just undertake a second stock issuance, and that way, we can gain some capital, without our being saddled with interest payments. Our interest payments are high now even without taking on any more debt. I'll get back to you later, but do you have any initial thoughts on this?

a. Paying interest is like investing in air -- it doesn't get you anything. The approach of using equity is inherently better.

1. Emily, can I send lan over to you so that you can mentor him? He's asking too many questions and I have work to do.

a. Sure, send him over. He can crunch some numbers for me.

1. We have a large client that we don't want to lose, but they made a payment proposal that has me worried. We were charging $120,000 for our services, with half to be paid at the halfway point, and the rest at the end of the contract, which will last five years. In their counteroffer, they said that they'd pay us $200,000 at the end of the contract. Let's assume 10% interest. Should we take their offer?

a. Their offer is actually better from a present value standpoint. Assuming that they're as good as their word and we don't need the liquidity, we should take it.

1. Isaac told me that if sales expand rapidly, then a company's cash resources can be drained, but that doesn't make sense to me. Is there any way that this could be possible?

a. This is possible because rapid sales expansion can strain a company's cash resources. This is due to increased costs associated with scaling up production, building inventory, and extending credit to customers. They need cash to cover their expenses, and any delay in payments can lead to a drain in cash. Working capital needs to be efficient during rapid sales growth periods.

1. The project that we discussed over coffee will cost an initial outlay of $1,200,000, entirely for the machinery that will depreciate according to the straight-line method. It will have no salvage value. We've estimated that our annual revenue will increase by $485,000. Annual costs will increase by $210,000. This is a six-year project, and our required rate of return is 11%. Using the internal rate of return method, should I give this project a "go"?

a. This more than satisfies the required rate of return, so on this basis, the project looks worth it. i. if the IRR is greater than the required rate of return (11%), the project is worth considering. If the IRR is less than the required rate of return, it might not be economically viable.

1. We have $8 million in assets. If we choose a low-liquidity plan for the assets, we can get a higher return. If we choose a high liquidity plan, returns will be lower. We also need to decide whether to take a short- or long-term financing plan. What would be our returns if we were to choose the most aggressive policy? This is on the drive so that you can have a look.

a. We only have one of the options which is 10.6% i. ROA = (net income/total assets) * 100

As you know, after our acquisitions earlier this year, we were left with some derivatives contracts that the acquired firms had, perhaps foolishly, signed onto. One of these is a set of put option contracts that were written and sold to open for $12,300. They are coming due in 43 days. The current stock price is $49.50, and the strike price is $44. What I want to know is, how

a. We would need the stock price to fall below the strike price in order to generate additional cash in which case, the cash inflow would equal $12,300.

1. I'm examining our debt structure, and am wondering whether we can shift some of our long-term financings to short-term. What are the implications if we added $6 million in current debt and paid off that much in long term?

a. We'd likely get a more favorable interest rate but would diminish our working capital. We'll need to consider whether this would constrict our ability to meet our short-term obligations.

1. I see that we've been buying forward contracts to lock in exchange rates for months in advance whenever we make large sales abroad. Is that a way to lock in a better exchange rate for when the sale transaction actually takes place?\

a. Yes, lan. If we were to wait on the spot exchange rate on the day of transaction, it would probably be costlier for us.

1. Could you explain how it was that you derived this answer?

a. f we use a one-for-one equity swap to buy Digby, we won't take on more debt. But, we'll create new shares to do it. This means current shareholders will own a smaller piece of the company, making their shares less valuable—a situation called dilution.

1. Emily, it looks as though I'll be working for you on the Inverness Medical account. I'm really excited because you re the most approachable person I've met in my internship. Let me know if there's anything you need.

a. lan, thanks for your willingness to help. I'll be in touch with you in a day or two, and I'll orient you about the account.