Question

Carlisle Enterprises, a specialty pharmaceutical manufacturer, has been losing market share for three years because several key patents have expired. Free cash flow to the firm is expected to decline rapidly as more competitive generic drugs enter the market. Projected cash flows for the next five years are $8.5 million, $7 million, $5 million, $2 million, and $0.5 million. Cash flow after the fifth year is expected to be negligible. The firm’s board has decided to sell the firm to a larger pharmaceutical company that is interested in using Carlisle’s product offering to fill gaps in its own product offering until it can develop similar drugs. Carlisle’s weighted average cost of capital is 15%. What purchase price must Carlisle obtain to earn its cost of capital?

Answer 1

Answer:

It should obtain at least:  $  17,363,986.04

Explanation:

we have several cash flow of different magnitude. As thisi s a finite sum of cash flow, we solve using present value of each lump sum using our WACC as discount rate:

$\frac{Nominal}{(1 + rate)^{time} } = PV$

$\frac{8,500,000}{(1 + 0.15)^{1} } = PV$

$\frac{7,500,000}{(1 + 0.15)^{2} } = PV$

$\frac{5,000,000}{(1 + 0.15)^{3} } = PV$

$\frac{2,000,000}{(1 + 0.15)^{4} } = PV$

$\frac{500,000}{(1 + 0.15)^{5} } = PV$

Year      Nominal Cash Flow Present Value

1   8,500,000.00      7,391,304.35

2   7,000,000.00    5,293,005.67

3   5,000,000.00       3,287,581.16

4   2,000,000.00      1,143,506.49

5      500,000.00       248,588.37

Total Present value  17,363,986.04