Sanfro, a Swiss pharmaceutical firm, wishes to market its new cholesterol medica

Question

Sanfro, a Swiss pharmaceutical firm, wishes to market its new cholesterol medication in the Eastern European market. It is considering a distribution agreement with a Czech firm for a period of six years. Marcel Kleiber, Sanfro’s CFO, is unsure of the advantages and disadvantages of entering into the distribution agreement and wishes an NPV analysis. He has obtained the following estimates of cash flows for two scenarios: going solo (A) and using a distribution agreement (B). Revenues. Under scenario A, Sanfro expects revenues of Swiss franc (CHF) 4 million each year for the first three years followed by CHF 8 million each year for the remaining three years. Under scenario B, Sanfro expects revenues of CHF 8 million each year for all six years. Distribution expenses. In scenario A, Sanfro needs to set up a sales organization in Eastern Europe. By spending a minimum amount of CHF 1.5 million up front, Sanfro expects to establish such an organization. This sales organization will incur expenses of CHF 0.5 million each year. In scenario B, Sanfro pays 25 percent of its revenues to its Czech partner. Miscellaneous data. You may assume that direct expenses are 25 percent of sales and include manufacturing costs as well as shipping expenses. Assume no taxes. Assume that the discount rate is 9 percent. Estimate NPV of scenario B

Explanation / Answer

Scenerio B: Revenue inflow of 8m for six years Cash outflow payment to Czech partner : 25% of sales revenue Cash outflow direct expenses : 25% of sales revenue Discount Rate : 9% Net cash inflow every year=8m-25% of 8m-25% of 8m or Net cash inflow=8m-2m-2m=4m This net cash inflow happens for 6 years PV of annuity of net cash inflow=4m x PVA(n=6,i=9%)=4m x 4.4859 = 17.9436m So the NPV in scenerio B will be CHF 17.9436m

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