Computer Outfitterz

Three college students have decided to create a start-up company. Their company, Computer Outfitterz, will perform consulting services and on-site repair. This case will focus on estimating the cash flow needs for the first two years of operations and deciding on how to fund the new venture.

General Information

After three and a half years of college, brothers Jim and Jason Anderson and their friend Kelly McMaster decided to take the plunge and start up a new business. All had taken a significant number of computer classes and also served as computer lab helpers through a work study program in college. They felt their background provided them with sufficient knowledge to start a computer consulting and repair business.

Kellys father, an attorney, provided them with free legal advice and set up their company, Computer Outfitterz (CO), as a corporation. He also invested $5,000 in the company, allowing them to build up a small inventory of supplies and purchase a couple of new laptops. The company currently has $3,000 in a checking account and is required by their bank to keep a minimum balance of $500. He indicated that he really did not expect the $5,000 to earn a return but simply wanted the three students to have a good chance at being successful. They knew, however, additional funds would have to be acquired through external sources. Luckily, Kellys father knew several local angels who enjoyed funding small start-up businesses if the outlook for the business was positive. Her father was also known in the venture capitalist community.

Jim and Jasons cousin recently started a similar business in another state and was actually experiencing positive cash flow after only six months in business. There were not sure if they would experience the same success but realized that at least a forecast of cash flow for at least two years was necessary if they were to get additional funding.

Financial Information

Based upon industry research and information from the cousin, Jim and Jason started gathering data to build a financial model. As with most financial models, a projection of revenue seemed like a logical first step. Since they were still taking classes, the three would not be able to fully generate revenue for the first six months.

In terms of revenue, their local contacts and information from the Andersons cousin suggested that they could achieve initial revenue in the seventh month of $2,500. They expected that number, however, to rise substantially. Even though their business was likely to be smaller in scope than their cousins, they estimate the monthly growth rate to be similar. Their cousin experienced a growth rate of 15% per month in the first few years of operation.

To build their business in the pre-revenue stage, additional cash would have to be invested in advertising and other administration expenses. Those investments would total $350 per month for months 1-7. Beyond month seven, the cost would grow at the same rate as revenue.

COGS is 8%.

For each dollar of revenue, they estimate approximately 10 cents would have to be spent on supplies. The remaining 15 cents of each dollar could pay their other operating expenses. Using the timing of purchases and their existing credit cards, supplies would not have to be paid for until 30 days after purchase.

Collecting the money from sales is always a challenge. Based upon research, approximately 40% of their sales would likely come from residential customers who paid in cash. The remaining 60% would come from business customers, half of which would likely pay in cash and the other half would put it on account. CO would offer those customers terms of N30. Since CO would focus on local, well-known customers, any loss from non-payment of billings would likely be minimal.

Jim and Jason also found a small amount of shared office space recently abandoned by a previous tenant. The landlord agreed to heavily discount the rent to $200 per month if CO would sign a two year lease, starting immediately.

Living expenses were a concern as well. Though they were still living at home, a small salary would be needed just to meet the basic living needs of the three founders. Currently, they are living off of their assistantship income at school but would each need to draw $2,000 per month as a salary once they graduate in six months (beginning in month seven).

Finally, a friend of Kellys who is an accounting major, agreed to provide some basic accounting services for $100 per month, which is in addition to other administrative expenses. As with the administrative expenses, that amount is expected to remain the same for the first seven months and then grow at the same rate as revenue. The accountant also provided some good information about start-up businesses in their state. For the first two years, start-up businesses would get sufficient credits from the state to make the tax rate effectively zero.

1. Set up a basic income statement and cash flow statement on a spreadsheet and indicate profit or loss for each month.

2. Set up a cash flow analysis on the same spreadsheet and indicate how much cash is needed each month (i.e., the burn rate). Also indicate the cumulative amount of cash needed to assist CO in planning.

3. Compute, if possible, how much revenue would be needed to breakeven in terms of cash flow. Comment on the financial viability of the venture. Would you suggest any changes? If so, what are they? If you do, this becomes your base model.

4. Suggest how much, where, when and why the three students should seek funding (family, crowd funding, angels, venture capitalists, public offering).

5. Rerun the analysis in questions 3 and 4 if sales grew by 25% per month, (using whatever changes you made resulting from Q3 new based model). Reanswer Q2 & Q3 with this new growth rate.

6. Assume the base case scenario of 15% revenue growth per month (new base model). Using the industry averages (identify the industry) for price/sales and price/earnings multiples, what would be a range of values for your firm at month 24?

7. If an angel offered funding of $30,000 for 40% of your company, how would you view the angels offer? Explain.