Pharma, Inc, manufactures and distributes pharmaceutical products. It is considering buying the rights to make and sell a new drug created by a drug development laboratory A&B Ltd., which develops new drugs but generally lets others manufacture and distribute them. A&B Ltd. Will send the rights to the products to Pharma for 1 billion. The net after-tax cash flow generated by the drug is expected to be P150 million in 1 year and to grow at 20% per year for the following four years, at which point (in year 5) the remaining value (or terminal value) of the drug is expected to be P500 million. Suppose the risk-free rate of return is 4% and Pharma has determined that 8% is the appropriate opportunity cost of funds for this project. Pharma needs to decide whether to go ahead and purchase the rights to the new drug. Should the company go ahead with the purchase? Why?
Pharma, Inc, manufactures and distributes pharmaceutical products. It is considering buying the rights to make and sell a new drug created by a drug development laboratory A&B Ltd., which develops new drugs but generally lets others manufacture and distribute them. A&B Ltd. Will send the rights to the products to Pharma for 1 billion. The net after-tax cash flow generated by the drug is expected to be P150 million in 1 year and to grow at 20% per year for the following four years, at which point (in year 5) the remaining value (or terminal value) of the drug is expected to be P500 million. Suppose the risk-free
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