Dr.

Harold Wolf of Medical Research Corporation (MRC) was thrilled with the response he had
received from drug companies for his latest discovery, a unique electronic stimulator that reduces the
pain from arthritis. The process had yet to pass rigorous Federal Drug Administration (FDA) testing
and was still in the early stages of development, but the interest was intense. He received the three
offers described below this paragraph. (A 10 percent interest rate should be used throughout this
analysis unless otherwise specified.)
Offer II Thirty percent of the buyer’s gross profit on the product for the next four years. The buyer in
this case was Zbay Pharmaceutical. Zbay’s gross profit margin was 60 percent. Sales in year one
were projected to be $2 million and then expected to grow by 40 percent per year.
For part (b) you need to use your calculator functions (PV, FV, PMT, I/Y, and N) to estimate the value
of each offer.

Items Year 1 Year 2 Year 3 Year 4

Sales 2mn 2*(1.4) 2*(1.4)^2 2*(1.4)^3
Gross profit 1.2mn 60% of Sales
Offer Through 30% * 1.2mn 30% * year 2
gross profit Gross profit
Present value 1/(1.1)^1 1/(1.1)^2 1/(1.1)^3 1/(1.1)^4
Factor
Present Value

Gross profit margin = Gross profit divided by sales

Gross profit = Gross profit Margin * Sales

As we know the Sales and the Gross profit margin, we can compute the Gross Profit

Gross Profit = 60% * 2mn

Now if we assume the same gross profit margin for the remaining 3 years then we can find the gross
profit for these years.

Now To compute the value of the offer, we need to compute the present value of the Amount of
gross profit that we will be receiving over the 4 year course.

To compute the present value we will be using the discount factor as 10%.

So the Present Value factor will be computed as 1 divided by (1+r)^n

Hence for the first year the PV factor will be 1/(1.1)^1 = 0.9091

Similarly we compute for the remaining 3 years.

Now Multiply the present value factor with the respective Cash flow to get the Present Value

So for year 1 Present Value of the gross profit = 0.36 mn * 0.9091 = 0.328mn.

Similarly we do for the remaining 3 years.

Now the total Present Value of the offer will be the Sum of the Last row of Present Value

This will be your final answer.

I hope it helps.

Let me know if you have any doubts. 

Thanks