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 $195 million to date working on a cure, but is now at a crossroads. It can either abandon its program or invest another $60 million today. Unfortunately, the firm’s opportunity cost of funds is 7 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.

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 $195 million to date working on a cure, but is now at a crossroads. It can either abandon its program or invest another $60 million today. Unfortunately, the firm’s opportunity cost of funds is 7 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.

Year 1 - 0
Year 2 - 0
Year 3 - 0
Year 4 - 0
Year 5 - $13,100,000
Year 6 - $15,200,000
Year 7 - $16,800,000
Year 8 - $18,300,000
Year 9 - $19,900,000

Find the Net Present Value Rounded to two decimal places

I tried entering
13,100,000(1.07)^6 + 15,200,000(1.07)^7 +
16,800,000(1.07)^8 + $18,300,000(1.07)^9 + 19,900,000(1.07)^10 - 60,000,000

The answer i got was no where close to the NPV of $203,594,235 unless i miscalculated somewhere

Answer 1

Hi Leo,

Use formula, NPV=FV/(1+i)^n... - C. You almost had it right, but you multiplied instead of dividing.

Little late than never.

Answer 2

To calculate the Net Present Value (NPV) of the investment, you need to discount the expected profits from each year to their present value and then subtract the initial investment.

To calculate the present value of future cash flows, you need to use the formula:

PV = CF / (1 + r)^n

Where:
PV is the present value
CF is the cash flow in the specific year
r is the discount rate (opportunity cost of funds)
n is the number of years into the future

Now let's calculate the NPV step by step:

1. Calculate the present value of each year's profits:
Year 1: PV1 = 0 / (1 + 0.07)^1 = 0
Year 2: PV2 = 0 / (1 + 0.07)^2 = 0
Year 3: PV3 = 0 / (1 + 0.07)^3 = 0
Year 4: PV4 = 0 / (1 + 0.07)^4 = 0
Year 5: PV5 = 13,100,000 / (1 + 0.07)^5
Year 6: PV6 = 15,200,000 / (1 + 0.07)^6
Year 7: PV7 = 16,800,000 / (1 + 0.07)^7
Year 8: PV8 = 18,300,000 / (1 + 0.07)^8
Year 9: PV9 = 19,900,000 / (1 + 0.07)^9

2. Calculate the net present value:
NPV = PV5 + PV6 + PV7 + PV8 + PV9 - Initial Investment
NPV = PV5 + PV6 + PV7 + PV8 + PV9 - $60,000,000

Now let's plug in the values and calculate:

PV5 = 13,100,000 / (1.07)^5 ≈ $8,542,474.26
PV6 = 15,200,000 / (1.07)^6 ≈ $9,275,253.04
PV7 = 16,800,000 / (1.07)^7 ≈ $9,905,801.88
PV8 = 18,300,000 / (1.07)^8 ≈ $10,393,631.91
PV9 = 19,900,000 / (1.07)^9 ≈ $10,877,907.75

NPV = $8,542,474.26 + $9,275,253.04 + $9,905,801.88 + $10,393,631.91 + $10,877,907.75 - $60,000,000
NPV ≈ $-11,005,931.16

Based on the calculations, the Net Present Value (NPV) is approximately -$11,005,931.16. It seems there might have been an error in calculating the discounting of the future cash flows.

Answer 3

To find the Net Present Value (NPV) of the project, we need to discount the expected profits from each year to their present value and subtract the initial investment.

To calculate the NPV, we will use the formula:

NPV = -(Initial Investment) + Σ (Expected Profit / (1 + Discount Rate)^Year)

Where:
- Initial Investment = $60,000,000
- Expected Profits = [Year 5: $13,100,000, Year 6: $15,200,000, Year 7: $16,800,000, Year 8: $18,300,000, Year 9: $19,900,000]
- Discount Rate = 7%

Now let's calculate the NPV step-by-step:

1. Calculate the present value of each expected profit:
Year 5: $13,100,000 / (1 + 0.07)^5 = $9,156,362.53
Year 6: $15,200,000 / (1 + 0.07)^6 = $9,480,294.41
Year 7: $16,800,000 / (1 + 0.07)^7 = $9,595,080.92
Year 8: $18,300,000 / (1 + 0.07)^8 = $9,222,370.77
Year 9: $19,900,000 / (1 + 0.07)^9 = $8,802,047.93

2. Sum up the present values of expected profits:
$9,156,362.53 + $9,480,294.41 + $9,595,080.92 + $9,222,370.77 + $8,802,047.93 = $46,256,156.56

3. Calculate the NPV:
NPV = -(Initial Investment) + $46,256,156.56
NPV = -$60,000,000 + $46,256,156.56
NPV = -$13,743,843.44

The Net Present Value (NPV) of the project, rounded to two decimal places, is -$13,743,843.44.