Approximately 14 million Americans are addicted to drugs and alcohol. The federa

Question

Approximately 14 million Americans are addicted to drugs and alcohol. The federal government estimates that these addicts cost the U.S. economy $300 billion in medical expenses and lost productivity. Despite the enormous potential market, many biotech companies have shied away from funding research and development (R&D) initiatives to find a cure for drug and alcohol addiction. Your firm Drug Abuse Sciences (DAS) is a notable exception. It has spent $230 million to date working on a cure, but is now at a crossroads. It can either abandon its program or invest another $50 million today. Unfortunately, the firms opportunity cost of funds is 6 percent and it will take another five years before final approval from the Federal Drug Administration is achieved and the product is actually sold. Expected (year-end) profits from selling the drug are presented in the accompanying table.

Explanation / Answer

Reading notes from here

http://finance.thinkanddone.com/

The sunk cost of $195 million has to be included in NPV calculation

Using this NPV calculator

http://finance.thinkanddone.com/tadNPV.e...

NPV = -203,594,235

Manually finding NPV using this tool

http://finance.thinkanddone.com/online-n...

DCF1 = ### -255000000 x (1+7%)-0 ### -255000000 x 1 ### -255,000,000
DCF2 = ### 0 x (1+7%)-1 ### 0 x 0.93458 ### 0
DCF3 = ### 0 x (1+7%)-2 ### 0 x 0.87344 ### 0
DCF4 = ### 0 x (1+7%)-3 ### 0 x 0.81630 ### 0
DCF5 = ### 0 x (1+7%)-4 ### 0 x 0.76290 ### 0
DCF6 = ### 13100000 x (1+7%)-5 ### 13100000 x 0.71299 ### 9,340,118.95
DCF7 = ### 15200000 x (1+7%)-6 ### 15200000 x 0.66634 ### 10,128,401.80
DCF8 = ### 16800000 x (1+7%)-7 ### 16800000 x 0.62275 ### 10,462,195.66
DCF9 = ### 18300000 x (1+7%)-8 ### 18300000 x 0.58201 ### 10,650,766.61
DCF10 = ### 19900000 x (1+7%)-9 ### 19900000 x 0.54393 ### 10,824,281.48

NPV (Annuity Due) T= 0 to N-1 ### -203,594,235

Using Excel to find NPV with tadXL add-in found here

http://finance.thinkanddone.com/32_bit_t...

=tadNPV(7%, { -255000000, 0, 0, 0, 0, 13100000, 15200000, 16800000, 18300000, 19900000 } )

NPV = -203,594,235

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