Sources of funding can be categorized into three groups (ignoring bank financing):

1. Financing from the '3 Fs' (friends, family and fools)
2. Angel investors (gap investors between the 3 Fs and true venture capitalists)
3. Venture capital funds

Costs involved in each of the above can vary considerably. I expect the problem would like you to figure out what it would cost in the long run in each of Cookham's two options. Then compare the possible outcomes for Pickwick personally and for Cookham.

We can assume that option one has already been used. This transaction is probably one in which an angel investor could be interested because true venture capitalists probably wouldn't bother with only $1-2M. The truth is that the most risk appears to be in projects in which Angel investors would be interested, and the higher risk demands a higher return. The following article suggests 10-20 times the original investment in five years. http://en.wikipedia.org/wiki/Angel_investor

"Because of the strict requirements venture capitalists have for potential investments, many entrepreneurs seek initial funding from angel investors, who may be more willing to invest in highly speculative opportunities, or may have a prior relationship with the entrepreneur.
Furthermore, many venture capital firms will only seriously evaluate an investment in a start-up otherwise unknown to them if the company can prove at least some of its claims about the technology and/or market potential for its product or services. To achieve this, or even just to avoid the dilutive effects of receiving funding before such claims are proven, many start-ups seek to self-finance until they reach a point where they can credibly approach outside capital providers such as VCs or angels. This practice is called "bootstrapping". " http://en.wikipedia.org/wiki/Venture_capital

"Angel investors don't come cheap. Although agreements with angel investors can vary, most require a certain percentage of equity in the business starting at 10% or more. In their mind, this expense is justified because they are investing in an inherently risky and unproven business. Additionally, some angel investors may require monthly fees for services and/or the employment of associates, not as a personal favor, but as a way to ensure that skilled individuals are performing critical tasks that you may not have the experience to perform yourself."

"From a non-financial standpoint, the other cost associated with angel investors is loss of control. The level of involvement varies from investor to investor, but it is not uncommon for angels to expect to receive a certain amount of control for their involvement in your company. A seat on your board of directors is standard practice, as well as influence in the setting of sales targets and other benchmarks."
http://www.gaebler.com/Angel-Investor-Advantages.htm

Given all of this extraneous information, I think you need only compute the two options by comparing what Cookham will charge for their risk if they put up the full $2M now, or $1M now and $1M later at market value. Remember to consider the downside too: if the company doesn't make it, where will Pickwick and Cookham be? So, how much profit or how much loss to each.

There is no right answer for the question, but information is included to build several possible outcomes. In the real world, this is called planning and it is anyone's best guess. The outcomes range as follows:

Scenario 1: Pickwick would end up with value of $0 to $12M. If $0, he would lose $1M. If $12M, he's be fat. Since failure is so common in these types of situations, it is a more likely outcome of $0. In that case, Cookham would lose $1M.

Scenario 2: This is a much more viable possibility because Pickwick will have all the resources he needs plus he may have expert advice and control that he does not want. That extra expertise could be invaluable, but he will give up some ownership and/or a huge amount of the profits. It is likely that Cookham will could make $10M or so on his $2M invested, but Pickwick might be more assured of being in business at the end of five yearsbut with a modest profit.

The problem says to assume an interest of zero because they didn't want you to compute the PV of $2M in five years.