Axgol Plc has developed, at a cost of £38m, a new drug designed to reduce the effects of ‘Long Covid’. The company must now decide whether to sell the patent (an exclusive rights for a set period of time) for the new drug, or to produce the drug itself. Axgol has received an offer from an international pharmaceutical company of £25m for the drug patent which is receivable immediately. However, Axgol has the capacity to produce and sell the drug itself. The marketing department believes that the drug can be sold for £4.80 per dose and it is expected that 10,000,000 boxes can be produced and sold each year for the four years of its expected life. The variable costs per dose are expected to be £2.00 and the fixed costs [excluding depreciation] are expected to be £36m per annum. Three quarters of these fixed costs are head office costs and have been apportioned to the new product and represent a ‘fair share’ of the fixed costs relating to the business as a whole. To produce the new drug, new equipment costing £26m will be purchased immediately and this is expected to be sold at the end of the four year period for £4m. The company uses a discount rate of 10%. You may assume that all cashflows arise at the end of each year. Required: a) (i) Calculate the net present value of producing and selling the drug. (ii) State, with your reason, whether the company should produce the new drug on a purely financial basis. (ii)Carry out sensitivity analysis on the following factors: the initial outlay on equipment the residual value of the equipment the selling price (revenue sensitivity) the discount rate.
Axgol Plc has developed, at a cost of £38m, a new drug designed to reduce the effects of ‘Long Covid’. The company must now decide whether to sell the patent (an exclusive rights for a set period of time) for the new drug, or to produce the drug itself.
Axgol has received an offer from an international pharmaceutical company of £25m for the drug patent which is receivable immediately. However, Axgol has the capacity to produce and sell the drug itself. The marketing department believes that the drug can be sold for £4.80 per dose and it is expected that 10,000,000 boxes can be produced and sold each year for the four years of its expected life. The variable costs per dose are expected to be £2.00 and the fixed costs [excluding depreciation] are expected to be £36m per annum. Three quarters of these fixed costs are head office costs and have been apportioned to the new product and represent a ‘fair share’ of the fixed costs relating to the business as a whole. To produce the new drug, new equipment costing £26m will be purchased immediately and this is expected to be sold at the end of the four year period for £4m.
The company uses a discount rate of 10%. You may assume that all cashflows arise at the end of each year.
Required:
a) (i) Calculate the
(ii) State, with your reason, whether the company should produce the new drug on a purely financial basis.
(ii)Carry out sensitivity analysis on the following factors:
-
the initial outlay on equipment
-
the residual value of the equipment
-
the selling price (revenue sensitivity)
-
the discount rate.
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