Flash Memory, Inc.
Exhibit TN-1 Actual and Forecasted Financial Statements Assuming No Investment in New Product Line, No Sale of New
Common Stock, and All Borrowings at 9.25%
Income Statement ($000s except EPS)
Actual Forecast
2007 2008 2009 2010 2011 2012
Sales $77,131 $80,953 $89,250 $120,000 $144,000 $144,000
Cost of goods sold $62,519 $68,382 $72,424 $97,320 $116,784 $116,784
Gross margin $14,612 $12,571 $16,826 $22,680 $27,216 $27,216
Research and development $3,726 $4,133 $4,416 $6,000 $7,200 $7,200
Selling, general and administrative $6,594 $7,536 $7,458 $10,032 $12,038 $12,038
Operating income $4,292 $902 $4,952 $6,648 $7,978 $7,978
Interest expense $480 $652 $735 $937 $1,323 $1,565
Other income (expenses) -$39 -$27 -$35 -$50 -$50 -$50
Income before income taxes $3,773 $223 $4,182 $5,661 $6,604 $6,363
Income taxes $1,509 $89 $1,673 $2,264 $2,642 $2,545
Net income $2,264 $134 $2,509 $3,396 $3,963 $3,818
Earnings per share $1.52 $0.09 $1.68 $2.28 $2.66 $2.56
Exhibit TN-1 (continued)
Balance Sheet ($000s except shares outstanding and book value per share)
Actual Forecast
2007 2008 2009 2010 2011 2012
Cash $2,536 $2,218 $2,934 $3,960 $4,752 $4,752
Accounts receivable $10,988 $12,864 $14,671 $19,726.03 $23,671 $23,671
Inventories $9,592 $11,072 $11,509 $13,865 $16,638 $16,638
Prepaid expenses $309 $324 $357 $480 $576 $576
Total current assets $23,425 $26,478 $29,471 $38,031 $45,637 $45,637
Property, plant & equipment at cost $5,306 $6,116 $7,282 $8,182 $9,082 $9,982
Less: Accumulated depreciation $792 $1,174 $1,633 $2,179 $2,793 $3,474
Net property, plant & equipment $4,514 $4,942 $5,649 $6,003 $6,290 $6,508
Total assets $27,939 $31,420 $35,120 $44,034 $51,926 $52,145
Accounts payable $3,084 $4,268 $3,929 $4,799 $5,759 $5,759
Notes payable $6,620 $8,873 $10,132 $14,306 $16,914 $13,325
Accrued expenses $563 $591 $652 $876 $1,051 $1,051
Income taxes payable $151 $9 $167 $226 $264 $255
Other current liabilities $478 $502 $554 $744 $893 $893
Total current liabilities $10,896 $14,243 $15,434 $20,951 $24,881 $21,282
Common stock at $0.01 per share par value $15 $15 $15 $15 $15 $15
Paid in capital in excess of par value $7,980 $7,980 $7,980 $7,980 $7,980 $7,980
Retained earnings $9,048 $9,182 $11,691 $15,087 $19,050 $22,868
Total shareholders' equity $17,043 $17,177 $19,686 $23,082 $27,045 $30,863
Total liabilities & shareholders' equity $27,939 $31,420 $35,120 $44,034 $51,926 $52,145
Number of shares outstanding 1,491,662 1,491,662 1,491,662 1,491,662 1,491,662 1,491,662
Book value per share $11.43 $11.52 $13.20 $15.47 $18.13 $20.69
Return on equity 13.3% 0.8% 12.7% 14.7% 14.7% 12.4%
Interest coverage ratio (times) 8.9 1.4 6.7 7.1 6.0 5.1
Notes payable / accounts receivable 60.2% 69.0% 69.1% 72.5% 71.5% 56.3%
Notes payable / shareholders' equity 38.8% 51.7% 51.5% 62.0% 62.5% 43.2%
Total liabilities / shareholders' equity 63.9% 82.9% 78.4% 90.8% 92.0% 69.0%
Flash Memory, Inc.
Exhibit TN-2 Calculation of Cost of Capital
Step 1 - Calculation of asset Beta for the industry using market value weights:
βA = βD x (D/V) + βE x (E/V), where E = market value of equity and βD = 0.2
Micron Technology
D = book value of debt (4-30-2010) $2,760 25.8%
BVE = book value of equity (4-30-2010) $5,603
MVE = market value of equity (4-30-2010) $7,925 74.2%
βD = debt beta 0.20
βE = equity or levered beta 1.25
βA = asset or unlevered beta 0.98
SanDisk Corporation
D = book value of debt (4-30-2010) $975 9.6%
BVE = book value of equity (4-30-2010) $4,157
MVE = market value of equity (4-30-2010) $9,135 90.4%
βD = debt beta 0.20
βE = equity or levered beta 1.36
βA = asset or unlevered beta 1.25
STEC, Inc.
D = book value of debt (4-30-2010) $0 0.0%
BVE = book value of equity (4-30-2010) $276
MVE = market value of equity (4-30-2010) $699 100.0%
βD = debt beta 0.00
βE = equity or levered beta 1.00
βA = asset or unlevered beta 1.00
Average βA for the industry 1.08
Exhibit TN-2 (continued) Calculation of Cost of Capital
Step 2 - Calculation of cost of equity capital for Flash Memory, Inc.:
Current weights of debt and equity
D = value of bank debt from 2009 balance sheet $10,132 21.4%
E = value of equity at $25 per share $37,292 78.6%
Since Flash is at the limit of its current loan agreement, management believes this is a
higher proportion of debt finance than optimal. As stated in the case, management has
set target capital structure weights equal to 18% debt and 82% equity.
βA = βD x (D/V) + βE x (E/V), where E = market value of equity and βD = 0.2
Flash Memory, Inc.
D = target value of debt 18.0%
E = target value of equity 82.0%
βD = debt beta 0.20
βA = average asset beta for the industry 1.08
βE = equity or levered beta 1.27
Cost of equity capital for Flash
Ke = Rf + βE x Market Risk Premium
Rf = risk-free rate of return 3.70%
βE = Flash's equity or levered beta 1.27
Assumed market risk premium 6.00%
Ke = Flash's cost of equity capital 11.31%
Step 3 - Calculation of cost of capital for Flash Memory, Inc.:
K = Wd x Kd x (1 - T) + We x Ke
Wd = weight of debt in Flash's capital structure 18.00%
Kd = Flash's cost of debt capital (a) 7.25%
T = Flash's income tax rate 40.00%
We = weight of equity in Flash's capital structure 82.00%
Ke = Flash' cost of equity capital 11.31%
K = Flash's cost of capital 10.05%
(a) at 18% weight of debt Flash will be within the 70% of accounts receivable limit of
the existing loan agreement, thus the 7.25% cost of debt capital. If Flash was over
this limit and changed to factoring, the cost of debt capital would increase to 9.25%,
and the equity beta and cost of equity capital would also increase.
1.026667
Flash Memory, Inc.
Exhibit TN-3 Net Present Value of Investment in New Product Line ($000s)
2010 2011 2012 2013 2014 2015 Total
Investment in equipment -$2,200
Net working capital required to support sales $5,648 $7,322 $7,322 $2,877 $1,308 $0
Investment in net working capital (the year-on-year change) -$5,648 -$1,674 $0 $4,446 $1,569 $1,308 $0
Sales $21,600 $28,000 $28,000 $11,000 $5,000
Cost of goods sold (includes equipment depreciation) $17,064 $22,120 $22,120 $8,690 $3,950
Research & development $0 $0 $0 $0 $0
Selling, general & administrative $1,806 $2,341 $2,341 $920 $418
Launch promotion $300 $0 $0 $0 $0
Income before income taxes $2,430 $3,539 $3,539 $1,390 $632
Income taxes $972 $1,416 $1,416 $556 $253
Net income $1,458 $2,124 $2,124 $834 $379
Depreciation of equipment $440 $440 $440 $440 $440 $2,200
Cash flow from operations $1,898 $2,564 $2,564 $1,274 $819
Total cash flow -$7,848 $225 $2,564 $7,009 $2,843 $2,127
NPV @ 10.05% cost of capital $2,987
IRR 21.9%
Flash Memory, Inc.
Exhibit TN-4 Change in Forecasted Financial Statements due to Acceptance of Investment in New Product Line
Financial Statement Account ($000s)
Actual Forecast
2007 2008 2009 2010 2011 2012
Sales $21,600 $28,000
Cost of goods sold (includes equipment depreciation) $17,064 $22,120
Research and development $0 $0
Selling, general and administrative (includes launch) $2,106 $2,341
Increase in operating income $2,430 $3,539
Cash (3.3% of sales) $713 $924
Accounts receivable (60 DSO) $3,551 $4,603
Inventories (52 days of COGS) $2,431 $3,151
Prepaid expenses (0.4% of sales) $86 $112
Net property, plant & equipment $2,200 $1,760 $1,320
Accounts payable (60 days of purchases) $842 $1,091
Accrued expenses (0.73% of sales) $158 $204
Other current liabilities (0.62% of sales) $134 $174
For informational purposes only:
NWC % of sales 26.15% 26.15%
Flash Memory, Inc.
Exhibit TN-5 Actual and Forecasted Financial Statements Assuming Acceptance of Investment in New Product Line, No Sale
of New Common Stock, and All Borrowings at 9.25%
Income Statement ($000s except earnings per share)
Actual Forecast
2007 2008 2009 2010 2011 2012
Sales $77,131 $80,953 $89,250 $120,000 $165,600 $172,000
Cost of goods sold $62,519 $68,382 $72,424 $97,320 $133,848 $138,904
Gross margin $14,612 $12,571 $16,826 $22,680 $31,752 $33,096
Research and development $3,726 $4,133 $4,416 $6,000 $7,200 $7,200
Selling, general and administrative $6,594 $7,536 $7,458 $10,032 $14,144 $14,379
Operating income $4,292 $902 $4,952 $6,648 $10,408 $11,517
Interest expense $480 $652 $735 $937 $1,527 $2,118
Other income (expenses) -$39 -$27 -$35 -$50 -$50 -$50
Income before income taxes $3,773 $223 $4,182 $5,661 $8,831 $9,349
Income taxes $1,509 $89 $1,673 $2,264 $3,532 $3,740
Net income $2,264 $134 $2,509 $3,396 $5,299 $5,609
Earnings per share $1.52 $0.09 $1.68 $2.28 $3.55 $3.76
Exhibit TN-5 (continued)
Balance Sheet ($000s except shares outstanding and book value per share)
Actual Forecast
2007 2008 2009 2010 2011 2012
Cash $2,536 $2,218 $2,934 $3,960 $5,465 $5,676
Accounts receivable $10,988 $12,864 $14,671 $19,726 $27,222 $28,274
Inventories $9,592 $11,072 $11,509 $13,865 $19,069 $19,789
Prepaid expenses $309 $324 $357 $480 $662 $688
Total current assets $23,425 $26,478 $29,471 $38,031 $52,418 $54,427
Property, plant & equipment at cost $5,306 $6,116 $7,282 $10,382 $11,282 $12,182
Less: Accumulated depreciation $792 $1,174 $1,633 $2,179 $3,233 $4,354
Net property, plant & equipment $4,514 $4,942 $5,649 $8,203 $8,050 $7,828
Total assets $27,939 $31,420 $35,120 $46,234 $60,467 $62,255
Accounts payable $3,084 $4,268 $3,929 $4,799 $6,601 $6,850
Notes payable $6,620 $8,873 $10,132 $16,506 $22,897 $18,719
Accrued expenses $563 $591 $652 $876 $1,209 $1,256
Income taxes payable $151 $9 $167 $226 $353 $374
Other current liabilities $478 $502 $554 $744 $1,027 $1,066
Total current liabilities $10,896 $14,243 $15,434 $23,151 $32,086 $28,265
Common stock at $0.01 per share par value $15 $15 $15 $15 $15 $15
Paid in capital in excess of par value $7,980 $7,980 $7,980 $7,980 $7,980 $7,980
Retained earnings $9,048 $9,182 $11,691 $15,087 $20,386 $25,995
Total shareholders' equity $17,043 $17,177 $19,686 $23,082 $28,381 $33,990
Total liabilities & shareholders' equity $27,939 $31,420 $35,120 $46,234 $60,467 $62,255
Number of shares outstanding 1,491,662 1,491,662 1,491,662 1,491,662 1,491,662 1,491,662
Book value per share $11.43 $11.52 $13.20 $15.47 $19.03 $22.79
Return on equity 13.3% 0.8% 12.7% 14.7% 18.7% 16.5%
Interest coverage ratio (times) 8.9 1.4 6.7 7.1 6.8 5.4
Notes payable / accounts receivable 60.2% 69.0% 69.1% 83.7% 84.1% 66.2%
Notes payable / shareholders' equity 38.8% 51.7% 51.5% 71.5% 80.7% 55.1%
Total liabilities / shareholders' equity 63.9% 82.9% 78.4% 100.3% 113.1% 83.2%
Flash Memory, Inc.
Exhibit TN-6 Actual and Forecasted Financial Statements Assuming Acceptance of Investment in New Product Line, Sale
of 300,000 Shares of Common Stock Receiving Net Proceeds of $23 per share, and All Borrowings at 7.25%
Income Statement ($000s except earnings per share)
Actual Forecast
2007 2008 2009 2010 2011 2012
Sales $77,131 $80,953 $89,250 $120,000 $165,600 $172,000
Cost of goods sold $62,519 $68,382 $72,424 $97,320 $133,848 $138,904
Gross margin $14,612 $12,571 $16,826 $22,680 $31,752 $33,096
Research and development $3,726 $4,133 $4,416 $6,000 $7,200 $7,200
Selling, general and administrative $6,594 $7,536 $7,458 $10,032 $14,144 $14,379
Operating income $4,292 $902 $4,952 $6,648 $10,408 $11,517
Interest expense $480 $652 $735 $735 $687 $1,112
Other income (expenses) -$39 -$27 -$35 -$50 -$50 -$50
Income before income taxes $3,773 $223 $4,182 $5,863 $9,671 $10,355
Income taxes $1,509 $89 $1,673 $2,345 $3,868 $4,142
Net income $2,264 $134 $2,509 $3,518 $5,802 $6,213
Earnings per share $1.52 $0.09 $1.68 $1.96 $3.24 $3.47
Exhibit TN-6 (continued)
Balance Sheet ($000s except shares outstanding and book value per share)
Actual Forecast
2007 2008 2009 2010 2011 2012
Cash $2,536 $2,218 $2,934 $3,960 $5,465 $5,676
Accounts receivable $10,988 $12,864 $14,671 $19,726 $27,222 $28,274
Inventories $9,592 $11,072 $11,509 $13,865 $19,069 $19,789
Prepaid expenses $309 $324 $357 $480 $662 $688
Total current assets $23,425 $26,478 $29,471 $38,031 $52,418 $54,427
Property, plant & equipment at cost $5,306 $6,116 $7,282 $10,382 $11,282 $12,182
Less: Accumulated depreciation $792 $1,174 $1,633 $2,179 $3,233 $4,354
Net property, plant & equipment $4,514 $4,942 $5,649 $8,203 $8,050 $7,828
Total assets $27,939 $31,420 $35,120 $46,234 $60,467 $62,255
Accounts payable $3,084 $4,268 $3,929 $4,799 $6,601 $6,850
Notes payable $6,620 $8,873 $10,132 $9,476 $15,338 $10,550
Accrued expenses $563 $591 $652 $876 $1,209 $1,256
Income taxes payable $151 $9 $167 $235 $387 $414
Other current liabilities $478 $502 $554 $744 $1,027 $1,066
Total current liabilities $10,896 $14,243 $15,434 $16,130 $24,561 $20,136
Common stock at $0.01 per share par value $15 $15 $15 $18 $18 $18
Paid in capital in excess of par value $7,980 $7,980 $7,980 $14,877 $14,877 $14,877
Retained earnings $9,048 $9,182 $11,691 $15,209 $21,012 $27,224
Total shareholders' equity $17,043 $17,177 $19,686 $30,104 $35,907 $42,119
Total liabilities & shareholders' equity $27,939 $31,420 $35,120 $46,234 $60,467 $62,255
Number of shares outstanding 1,491,662 1,491,662 1,491,662 1,791,662 1,791,662 1,791,662
Book value per share $11.43 $11.52 $13.20 $16.80 $20.04 $23.51
Return on equity 13.3% 0.8% 12.7% 11.7% 16.2% 14.8%
Interest coverage ratio (times) 8.9 1.4 6.7 9.1 15.1 10.4
Notes payable / accounts receivable 60.2% 69.0% 69.1% 48.0% 56.3% 37.3%
Notes payable / shareholders' equity 38.8% 51.7% 51.5% 31.5% 42.7% 25.0%
Total liabilities / shareholders' equity 63.9% 82.9% 78.4% 53.6% 68.4% 47.8%
Flash Memory, Inc.
Exhibit TN-7 Summary Statistics
No Investment in New Product Line
Sell No New Stock
Borrow at 9.25%
2010 2011 2012
Earnings per share $2.28 $2.66 $2.56
Interest coverage ratio (times) 7.1 6.0 5.1
Return on equity 14.7% 14.7% 12.4%
Notes payable / accounts receivable 72.5% 71.5% 56.3%
Notes payable / shareholders' equity 62.0% 62.5% 43.2%
Total liabilities / shareholders' equity 90.8% 92.0% 69.0%
Notes payable (000s) $14,306 $16,914 $13,325
Invest in the New Product Line
Sell No New Stock
Borrow at 9.25%
2010 2011 2012
Earnings per share $2.28 $3.55 $3.76
Interest coverage ratio (times) 7.1 6.8 5.4
Return on equity 14.7% 18.7% 16.5%
Notes payable / accounts receivable 83.7% 84.1% 66.2%
Notes payable / shareholders' equity 71.5% 80.7% 55.1%
Total liabilities / shareholders' equity 100.3% 113.1% 83.2%
Notes payable (000s) $16,506 $22,897 $18,719
Invest in the New Product Line
Sell 300,000 Shares of Common Stock
Borrow at 7.25%
2010 2011 2012
Earnings per share $1.96 $3.24 $3.47
Interest coverage ratio (times) 9.1 15.1 10.4
Return on equity 11.7% 16.2% 14.8%
Notes payable / accounts receivable 48.0% 56.3% 37.3%
Notes payable / shareholders' equity 31.5% 42.7% 25.0%
Total liabilities / shareholders' equity 53.6% 68.4% 47.8%
Notes payable (000s) $9,476 $15,338 $10,550
