Pickswinners Venture Fund
Pickswinners Venture Fund invested $10 million five years ago in Robotronics Co. The fund received 6 million shares of convertible preferred stock, each of which can be converted into three shares of common stock. Robotronic is now set to complete an IPO, and its shares are being priced at $40 each. Pickswinners will convert its preferred stock to common at the IPO, and will sell its shares along with Robotronic. The investment banking firm handling the IPO will charge an 8% underwriting fee.
-Palooka Products negotiates a venture capital investment contract,receiving $5 million today,with the expectation that the firm will seek an IPO in five years with an expected value of $50 million.If the venture capital investor requires a 40% expected return,what share of Palooka Products' equity does it accept in exchange for its $5 million investment?

Question

Quizplus · Accepted Answer

To calculate the share of equity, we need to first calculate the expected return on investment:
Expected return = ($50 million ÷ $5 million invested)^(1/5) - 1 = 23.46%
To satisfy the 40% expected return requirement, the investor must receive:
$5 million x 1.40 = $7 million
So, the equity share of the investor can be calculated as:
Equity share = $5 million ÷ ($5 million + $7 million) = 0.4167 = 41.67%
Therefore, the answer is A) 54%, which is the complement of the equity share (100% - 41.67%).

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