A venture capitalist wants to estimate the value of a new venture. The venture is not expected to produce_x000D_
_x000D_
net income or earnings until the end of Year 5 when the net income is estimated at $1,600,000. A_x000D_
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publicly traded competitor or “comparable firm†has current earnings of $1,000,000 and a market_x000D_
_x000D_
capitalization value of $10,000,000._x000D_
A. Estimate the value of the new venture at the end of Year 5. Show your answer using both the direct_x000D_
_x000D_
comparison method and the direct capitalization method. What assumption are you making when using_x000D_
_x000D_
the current price-to-earning relationship for the comparable firm?_x000D_
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B. Estimate the present value of the venture at the end of Year 0 if the venture capitalist wants a 40_x000D_
_x000D_
percent annual rate of return on the investment_x000D_
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Describe the process for estimating the percentage of equity ownership that must be given up by the_x000D_
_x000D_
founder when a new equity investment is needed._x000D_
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What is meant by the terms (a) capital call, (b) deal flow, and (c) due diligence?_x000D_
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What is meant by the terms (a) lead investor, (b) SLOR, and (c) term sheet?_x000D_
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Why should entrepreneurs care what pressures venture capitalists face in carrying out their professional money management (intermediation) function?_x000D_
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Why do venture capitalists make quick decisions on the infeasibility of some business plans? When a business plan is not quickly determined to be infeasible, what happens next and why?_x000D_
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Why are venture capital funds typically organized as limited partnerships? In particular, why are they private firms instead of public firms?_x000D_
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Interact Systems_x000D_
MINI CASE: Interact Systems, Inc._x000D_
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Interact Systems, Inc., has developed software tools that help hotel chains solve application integration_x000D_
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problems. Interact’s application integration server (AIS) provides a two-way interface between central_x000D_
_x000D_
reservations systems (CRS) and property management systems (PMS). At least two important trends in_x000D_
_x000D_
the hotel industry are relevant. First, hotels are shifting away from the manual booking of room_x000D_
_x000D_
reservations; electronic bookings will continue to increase as more bookings are made over the Internet._x000D_
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Second, competitive pressures are forcing hotels to implement yield management programs and to_x000D_
_x000D_
increase customer service. By integrating the CRS and PMS through Interact’s AIS, the company can_x000D_
_x000D_
better manage inventories, improve yields, and enhance customer service_x000D_
All reservation traffic is routed from the CRS to individual hotel properties. This allows Interact Systems_x000D_
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to create a database that can be used to track customers and to facilitate marketing programs, such as_x000D_
_x000D_
frequent-stay or VIP programs, as a way of increasing customer satisfaction. Interact forecasts application_x000D_
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integration expenditures in the hospitality industry to exceed $1 billion by 2012._x000D_
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Greg Thomas founded Interact Systems in 2006 and developed the firm’s middleware software and_x000D_
_x000D_
hospitality applications. He has twelve years of systems applications experience and currently is Interact’s_x000D_
_x000D_
chief technology officer. Eric Westskow joined Interact in early 2009 as president and CEO. He had worked_x000D_
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in sales and marketing in the software industry for more than twenty years._x000D_
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Interact Systems’ AIS software development, which began in 2006, went through several design changes_x000D_
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in 2007. The first product was sold and installed in 2005. Sales were only $500,000 in 2006. However,_x000D_
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now that the firm has dependable market-tested AIS products ready to be shipped, revenues are expected_x000D_
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to reach $20.8 million in 2012._x000D_
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Greg Thomas founded Interact Systems with $50,000 of his own savings plus $50,000 from friends. Two_x000D_
_x000D_
private investors provided an additional $200,000 in 2007. In addition, $1 million was obtained from a_x000D_
_x000D_
venture capital firm, Katile Capital Partners, in early 2009 in exchange for an equity position in Interact._x000D_
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The firm currently is seeking an additional $5 million to finance sales growth._x000D_
A. A VC is considering providing the additional $5 million. What type of fund (stage specialization,_x000D_
_x000D_
industry focus, etc.) would you approach? In what part of their investing cycle would you hope to_x000D_
_x000D_
approach them?_x000D_
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B. Discuss how Interact Systems would expect to fare in the VC screening process involving each element_x000D_
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of Figure 11.5._x000D_
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C. Discuss typical issues that might be addressed_x000D_
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