time, she advanced to the position of director of the laboratory and completed an MBA
degree. She felt that opportunities for further advancement at the hospital were limited
and was looking for a new challenge. She took a course in entrepreneurship and was
fascinated by the idea of starting her own business. Walton decided that she would open
an independent laboratory to provide medical tests for independent medical practices.
She believed that she could help physicians reduce both their capital requirements and
administrative chores, as well as provide more accurate testing.
Walton began assembling information. She discovered a piece of land available near
a number of independent medical practices. The land could be purchased for $100,000,
and a suitable building would cost approximately $400,000. The building would have
a useful life of approximately 40 years. Laboratory equipment would cost $1 million.
The equipment would have a life of 7 years for tax purposes, but would actually last
10 years. Although the business could continue indefinitely, Walton wanted to do the
analysis based on the assumption of a life similar to that of the laboratory equipment:10
In addition to fixed asses, working capital such as cash, supplies, receivables, and
payables would be needed. Walton wanted to maintain a minimum cash balance of
$20,000. She estimated that $100,000 of supplies would be needed initially, and accounts
payable at $40,000. She estimated that the cash, supplies, receivables, and payables
categories would double at the end of the first year and would not increase thereafter.
Walton predicted revenue of $600,000 during the first year and $1,200,000 each year
thereafter. She estimated that labor expenses, including a salary for her equal to what
she was now earning, of $300,000 in the firs year and $480,000 each year thereafter.
She estimated a supplies expense of $120,000 in the first year and $190,000 each year
thereafter. SHe estimated overhead expense, other than depreciation, of $100,000 a year.
Looking ahead, Walton estimated that the equipment would have a negligible value
in 10 years, while the building would have lost one-fourth of tits value and the land would still be worth $100,000. She guessed that supplies inventory could be sold for half
its cost, and other working capital items would be settled at their book values.
Walton turned her attention to financing. She had limited capital of her own and
would need to seek outside investors. She had heard enough horror stories about problems
that occurred when companies could not make payments on debts, and she wanted
to avoid those troubles. Thus, she wanted to try to arrange all equity financing, and
use a bank line of credit only for temporary needs. Walton decided on a plan involving
ten wealthy investors, preferably senior retired physicians who would then serve on the
board of directors. She would fund the project by creating eleven shares – one share
free to herself as a founder’s share and one share to each of the investors. Each investor
would then invest 10 percent of the capital requirements.
Walton tentatively discussed the project with several senior retire physicians to see
what would be required. They viewed this as an investment of moderate risk and
indicated that they would want a 12 percent after tax return from an investment of this
type. While several investors encourages her to continue, they were naturally unwilling
to make a commitment without a proposal and a thorough financial analysis. Walton
began to develop a profitability analysis and a proposal. She had to choose between
the corporate tax form and an S form. She estimated that most investors would be
in 28 percent tax brackets. All funds not needed internally would be paid out to the
shareholders. She thought she could be ready to start by the first of the year, so assets
would be considered placed in service in January.
1. Identify all cash flow on the assumption the business is taxed at a 28 percent tax
2. Prepare a net present value analysis.
3. Does this investment provide a satisfactory rate of return to investors?
4. Is it fair and reasonable for Walton to get one-eleventh of the company without
putting up equity capital of her own?
I want an excel file with your case project, which has both
calculations, comments on where and how you came up with the important numbers such as depreciation, discount rate, tax rate, etc, and also brief answers to the questions of the case.
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