Biopharma is a pharmaceutical company. Biopharma’s annual stock returns have a C

Question

Biopharma is a pharmaceutical company. Biopharma’s annual stock returns have a CAPM beta of 1.25 (i.e. =1.25). The market portfolio’s return is 13%, and the riskfree rate is 5%. a. What is the required expected return for Biopharma according to the CAPM? b. The firm has the opportunity to develop a new drug. This project requires initial outlay of $400,000 and will bring expected revenue of $100,000 in each of the next 6 years. The riskiness of this project is the same as the overall riskiness of Biopharma. Should the management team of Biopharma approve the project or not and why?

Explanation / Answer

1) Expected Return = Risk free rate + Beta x (Market return - Risk free Rate)
Expected Return = 5% + 1.25 x (13% - 5%) = 15%
NPV = -$400,000 + $100,000 (PVIFA 15%,6)

NPV = -400,000 + $100,000 x 3.3521 = -$21551.73

Management should not approve the project because NPV is negative

Related Questions

Navigate

• Browse (All)
• Browse B
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.