The Mega One Software Corporation was organized to develop software products that would provide Internet-based firms with information about their customers. As a result of initial success, the venture’s premier product allows firms with subscriber bases to predict customer profiles, retention, and satisfaction.
Arlene received an undergraduate degree in computer sciences and information systems from a major northeastern university four years ago. The Omega Subscriber Software Product was developed, test marketed with the help of two of her classmates; Mega One Software Corporation was up and running within one year. Venture capital was obtained to start up operations; a second round of venture financing helped Mega One to move through its survival stage. Product success in the marketplace has allowed the venture to achieve such rapid sales growth that it now is able to get bank loans and issue long-term debt.
The interest rate on the bank loan is 10 percent. For long-term debt, the real interest rate is estimated to be 3 percent; the inflation premium is 4 percent; and Mega One’s default/liquidity risk premium over government bonds is estimated to be 7 percent. The cost of common equity was estimated using the risk-free long-term government bond rate and a stock investment risk premium of 13 percent.
Arlene has now reached the point of being able to consider whether Mega One is adding economic value in terms of its net operating profit after taxes (NOPAT) and its weighted average cost of capital (WACC). Following are the financial statements for 2016.