Pro Forma Analysis

Your job is to fill in the attached spreadsheet to reflect this projection scenario and answer the following questions upon your analysis.（8 questions on the last page） You must answer the questions thoroughly, in complete sentences. Each answer should be approximately one paragraph, offering detailed analysis, and demonstrating critical thinking.

2018. You have extensive experience in electrical engineering, and have assembled a team with expertise in manufacturing, finance, sales and marketing. You form California Solar Roadways, Inc. to manufacture and distribute an innovative new energy device called the Solar Roadway Panels in the United States beginning in 2018.

1. https://www.indiegogo.com/projects/solar-roadways#/

1. You have obtained exclusive rights in the United States to the patent on the underlying technology, which cost you $85,000 to obtain. Your patent will be booked as an intangible asset at cost, which can be amortized over a 15 year period.

1. You will pay Solar Roadways, LLC an ongoing royalty of 5% of revenues, for use of their property under the terms of the licensing agreement.

1. Because this unique innovation will enjoy first to market status and is protected by U.S. and international patents, you expect little competition and choose a differentiation strategy, rather than a price leadership strategy. You will reassess this strategy once the product has been in the market for a while, and certainly by the time that competitors attempt to launch competing devices. This strategy affords you a price point slightly higher than other alternatives.

1. You form the California Solar Roadways in California, along with five other co-founders. a. Each co-founder has a specific area of expertise and will eventually work in the company as executives/engineers at market rates. b. Each of the five founders make equity contributions in the amount of $175,000 c. You issue 875,000 shares of common stock at $1.00 par value which is distributed among the founders.

1. California Solar Roadways will be producing a single product called Solar Roadway Panels.

2019. You ran an Indiegogo campaign in which you booked pre-orders for Solar Roadway panels, and collected $2,200,000 in cash. a. This should be counted as revenue for 2,200 units. The first 1,100 will be produced in 2018, and the remaining 1,100 units produced in 2019.

1. California Solar Roadways applied for and was awarded a DOE SBIR grant. a. The Phase I portion of this grant will award $250,000 in 2018 b. The Phase II portion of this grant will award $750,000 in 2019 c. Grant monies are considered taxable income

8. You will be seeking an investment from a Venture Capital firm to purchase equipment and cover operating expenses for the first few years. a. The Venture Capital firm has already agreed to issue a convertible note in the amount of $1,000,000 that can convert into equity at a pre-determined rate after 5 years. b. The convertible note will tranche $500,000 in year 1 and $500,000 in year 3 c. The convertible note will require the payment of interest only for the first 5 years d. You will pay 8.5% simple interest on the outstanding balance of the convertible note, and book it as a note payable on your Balance Sheet. e. The convertible note should be calculated as part of the pre-money valuation.

1. The Venture Capital firm is also considering making an additional equity investment of $1,000,000 and your pro forma financial statements will determine the necessity of this.
2. This equity investment should not be calculated as part of the pre-money valuation, and should only be considered in post-money valuation.
3. It is critical that your projections to the Venture Capital firm be as realistic as possible. They will be suspicious of “blue sky” projections, and may not make the investment.

2019. The manufacturer of the equipment that you are buying has agreed to finance $1,500,000 of the cost of the equipment. a. The manufacturer will charge 8% simple interest on the outstanding principle amount. b. This equipment loan requires that you make annual principle payments of $200,000 on the loan beginning in 2019.

1. You and your ownership team have personally guaranteed a bank revolving line of credit with a limit of $500,000. You may use this line as needed, and will only book a liability when you use it. a. You will pay 7.75% simple interest on the outstanding loan balance, and book it as a short term liability on your Balance Sheet.

1. The sales at start-up firms usually begin slowly in the launch stage, climb rapidly in the rapid growth stage, and level out as sales approach production capacity.
2. Barring further investment, you believe that California Solar Roadways will reach a production capacity plateau by year five.
3. You decide to plot your sales volumes along a sigmoid curve, using a projected production capacity of 8,400 Solar Roadway panels per year which you project to reach by year 5.
4. You will sell the Solar Roadway panels Clock units at wholesale selling price of $1,000/each and a retail selling price 50% higher than the wholesale price in 2018.
5. 100% of your revenue will be from wholesale sales of Solar Roadway panels, and therefore 0% of revenue will come from retail sales.
6. Because you ran an Indiegogo campaign, you will have to accommodate the pre-sale orders. Set the starting point on your sigmoid sales curve at 10%
7. Use the inputs to create a sales curve that you feel will reflect the uptake of your product in the market, but also one can you defend as reasonable to the VC’s.

23. Cost of glass component material will be 9% of revenue, the cost of photovoltaic components will be 23.5% of revenues, the cost of electronic components will be 24% of revenue and direct labor will be 8.5% of revenue in 2018. a. Keep in mind that direct labor is subject to the same rate of payroll taxes as described below.

1. Because fixed and non-operating costs tend not to stay fixed in the rapid growth stage of startup companies, and tend to increase in a “stair-step” fashion, you decide to increase certain costs using “multipliers” that will multiply fixed costs times some “stair-step” multiplier.
2. Increase salary expenses by using 1x, 2x, 2.25x, 2.5x and 2.75x multipliers. (Year 1 thru 5 respectively, multiplying against the Year 1 costs)
3. Increase certain operating fixed costs (any listed as a cost per month (not rent or costs stated as a percentage of some other measure)) by using 1x, 2x, 2.25x, 2.5x and 2.75x multipliers. (Year 1 thru 5 respectively, multiplying the Year 1 costs)

4. The company will rent a 40,000 square foot office/production facility for $4.00 per square foot.

2. Increase certain non-operating expenses by using 1x, 2x, 2.25x, 2.5x and 2.75x multipliers. (Year 1 thru 5 respectively, multiplying the Year 1 costs)

6. You need to properly budget for the result of payroll taxes. These are the taxes that are paid by the employer for the benefit of the employee, and do not include federal, state or local income tax, which is paid by the employee. Include in your budget: 6.2% for Social Security, 1.45% for Medicare, 0.60% for Federal unemployment, 3.0% for Ohio unemployment, and 2.7% for Ohio Workers Compensation. All of these are paid as a percentage of earnings.

1. Normally, a manufacturer of a hard goods would encounter inflationary pressures on Cost of Goods, Direct Labor, and would reflect these by raising the wholesale and retail price of your product. Due to the nature of the solar energy market, prices tend to only go down due to improvements in energy conversion efficiency, and increases in industry capacity. You believe that the forces of inflation and deflation due to efficiency will offset each other. You elect to recognize a net zero inflation rate, and will keep the wholesale and retail prices constant during the forecast period.

1. You have determined that for your balance sheet projections you need to carry the following amounts in your asset accounts;
2. Accounts Receivable – 2 month of sales
3. Inventories – 3 month of COGS
4. Prepaid Expenses – 6 months of insurance expense

1. You have determined that for your balance sheet projections you need to carry the following amounts in your liability accounts;
2. Accounts Payable – 2 months of SG&A+COGS
3. Accruals – 1 month of salary expense

1. Different expense accounts are categorized to the Income Statement accounts as indicated at the right of the pro forma in the pro forma tab of the spreadsheet.

1. In year 1 your firm will purchase new manufacturing machinery at a cost of $2,000,000.
2. Depreciate this equipment using straight line depreciation (15 year life, no salvage value)

1. At the beginning of year 1, you valued your firm’s intangible asset value at $85,000. You may amortize the value of intangibles over a 15 year period using a straight line amortization.

1. The Investors have declared that their expected rate of return is 35%, they expect a 7% rate of return in the terminal period, and a 3% terminal period growth rate.

1. You have projected your terminal period cash flows to be $425,000 in the terminal period.

1. Following your extensive research, you have determined starting levels for all operating and non-operating expenses. These have been input into your pro formas.

1. Between the $875,000 founder capital contribution, the SBIR grants, and the convertible note as outlined, will the firm have enough cash at all times? Will the company need to complete the equity investment, and will that be enough to fulfill the capital needs of the company? What is your evidence? If not, how much more would they need? What might be an appropriate source for any additional capital needed, now and into the future? Would a different tranching schedule for disbursement of the convertible note proceeds ease issues with cash flow? Explain.

2. If the sales curve were to start at 20% as opposed to 10%, assuming some additional pre-orders, what observations can you make about cash flow? Valuation? What happens to the sigmoid curve when you make other adjustments to its inputs?

3. If the investor were to declare that their expected rate of return should be 30% instead, what are the observable effects of that? What would happen if the expected rate of return was 50%? How can you explain this relationship?

4. Based on an examination of the attached BizMiner report, do you think that the 7% Investor expected rate of return, and the 3% terminal period growth rate are appropriate? What metric in the BizMiner report do you think would approximate this? What observations can you make if these are raised? What observations can you make if these are lowered?

5. Compare key metrics of Cincinnati Solar Roadways with those of the average firm shown on the attached BizMiner report. How do percentages relative to sales compare with the rest of the industry? Which ones stand out as being large departures from the industry? Should Cincinnati Solar Roadways be concerned about any of these? Explain.

6. Take a look at the profitability ratios for Cincinnati Solar Roadways, and make some observations and analysis that explains what is happening and why.

7. If the Contribution Margin is relatively flat from year to year, how do you explain the changes to the various breakeven revenues? How many units are needed in each of the years to meet the breakeven revenues?

8. By using the BizMiner report (most recent period), and some additional information below, you should be able to calculate and answer the following questions: If the investor had invested the $1,000,000 in stock in year 1, what number of shares would need to be issued to the investor? What would the price per share be? What would the pre-money and post-money valuations be? If the P/E ratio of the industry were applied to Cincinnati Solar Roadways, and reflected an actual liquidity event after year 5, what would the payout be to the investors and founders, and what would their respective ROI’s be?
9. The price for a comparable firm is equal to 1X revenue of the average firm in BizMiner (average of all listed periods)
10. The earnings for a comparable firm is equal to the EBITDA of the average firm in BizMiner (average of all listed periods)
11. There is no provision for liquidation preference or participation in your calculations