Coursera Wharton Foundation Series

Introduction to Corporate Finance Professor Franklin Allen

Cough Syrup Case Solutions
Year

Plant equipment

(65,000) $

Renovation

Salvage

Depreciation Tax Shield

10

11

12

13

14

15

16

18

19

20

21

22

23

24

25

$ (15,580) $

4,674 $

4,188

1,408 $ 1,408 $ 1,408 $ 1,408 $ 1,408 $ 1,408 $

1,408 $

399 $

399 $

399 $

399 $

399 $

399 $

399 $

399 $

399 $

399
10.33

$ 1,408 $

1,408 $

1,408 $ 1,408 $

1,408 $

1,408 $ 1,408 $ 1,408 $

17

Price/Bottle ($'s) (A)

3.50 $

3.79 $

4.09 $

4.43 $

4.79 $

5.18 $

5.44 $

5.72 $

6.00 $

6.31 $

6.63 $

6.83 $

7.03 $

7.24 $

7.46 $

7.68 $

7.91 $

8.15 $

8.40 $

8.65 $

8.91 $

9.17 $

9.45 $

9.73 $

10.03 $

Cost/Bottle ($'s) (B)

1.00 $

1.04 $

1.08 $

1.13 $

1.17 $

1.22 $

1.27 $

1.32 $

1.37 $

1.43 $

1.48 $

1.54 $

1.61 $

1.67 $

1.74 $

1.81 $

1.88 $

1.96 $

2.04 $

2.12 $

2.20 $

2.29 $

2.39 $

2.48 $

2.58 $

Bottles Sold ('000s) (C)

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

10,000

2.69
10,000

Revenue (=A x C)

$ 37,853 $ 40,937 $

44,274 $ 47,882 $

51,785 $

54,405 $ 57,158 $ 60,050 $

63,089 $ 66,281 $ 68,269 $ 70,317 $ 72,427 $ 74,600 $ 76,838 $ 79,143 $ 81,517 $ 83,963 $ 86,481 $ 89,076 $ 91,748 $ 94,501 $ 97,336 $ 100,256 $ 103,263

Production Cost (=B x C)

$ 10,403 $ 10,822 $

11,258 $ 11,712 $

12,184 $

12,675 $ 13,186 $ 13,717 $

14,270 $ 14,845 $ 15,443 $ 16,066 $ 16,713 $ 17,387 $ 18,088 $ 18,816 $ 19,575 $ 20,364 $ 21,184 $ 22,038 $ 22,926 $ 23,850 $ 24,811 $ 25,811 $ 26,851

Labor Costs

$ 5,000 $

5,408 $

5,848 $ 6,325 $

6,840 $

7,398 $ 8,001 $ 8,653 $

9,358 $ 10,121 $ 10,945 $ 11,838 $ 12,802 $ 13,846 $ 14,974 $ 16,195 $ 17,514 $ 18,942 $ 20,486 $ 22,155 $ 23,961 $ 25,914 $ 28,026 $ 30,310 $ 32,780

After-Tax Profits on Cough Syrup

$ 14,592 $ 16,060 $

17,659 $ 19,399 $

21,294 $

22,316 $ 23,381 $ 24,492 $

25,649 $ 26,855 $ 27,222 $ 27,569 $ 27,892 $ 28,189 $ 28,454 $ 28,686 $ 28,878 $ 29,027 $ 29,128 $ 29,174 $ 29,160 $ 29,079 $ 28,924 $ 28,688 $ 28,361

After-tax Opportunity Costs (Rental Loss)

$ 1,004 $

1,034 $

1,065 $ 1,097 $

1,130 $

1,164 $ 1,199 $ 1,235 $

(65,000) $ 14,996 $ 16,433 $

18,001 $ 19,710 $

21,571 $

22,559 $ 23,590 $ 24,664 $

Cash Flow (D)

Discount Factor (E)

1.00

0.91

0.83

Discounted Cash flow (DCF = D x E)

(65,000) $ 13,632 $ 13,581 $

Net Present Value (NPV)

139,213

0.75

0.68

13,524 $ 13,462 $

0.62
13,394 $

0.56

0.51

0.47

12,734 $ 12,105 $ 11,506 $

1,272 $ 1,310 $ 1,350 $ 1,390 $ 1,432 $ 1,475 $

1,519 $ 1,565 $ 1,612 $ 1,660 $ 1,710 $ 1,761 $ 1,814 $ 1,868 $ 1,924 $

2,041

25,785 $ 26,952 $ 27,280 $ 27,587 $ 27,868 $ 28,121 $ 17,437 $ 27,520 $ 27,665 $ 27,766 $ 27,817 $ 27,812 $ 27,745 $ 27,610 $ 27,399 $ 27,104 $ 30,906
0.42

0.39

0.35

0.32

0.29

0.26

10,935 $ 10,391 $ 9,562 $ 8,790 $ 8,072 $ 7,405 $

0.24

0.22

0.20

0.18

0.16

0.15

0.14

0.12

0.11

4,174 $ 5,989 $ 5,473 $ 4,994 $ 4,548 $ 4,134 $ 3,749 $ 3,392 $ 3,060 $

Please refer to the spreadsheet CoughCough_Solution.xlsx for more details.

1.
2.
3.
4.
5.
6.

1,982 $

Real salvage value is 3000, so nominal salvage value after 15 years = 3000 x 1.03^15 = 4674
Tax code is written in nominal terms. Depreciation tax shield per year in the first 15 years is 0.35 x (65000-4674)/15 = 1408
Real cost is 10000, so nominal cost is 10000 x 1.03^15 = 15580
Similar to Q2, depreciation tax shield per year in the last 10 years is 0.35 x (15580-4188)/10 = 399
Price is currently (at date 0) $3.50, so nominal price at end of 1st year of production is 3.50 x 1.05 x 1.03 = 3.79
Nominal price per bottle at end of year 10 is 3.50 x (1.05^5) x (1.02^5) x (1.03^10). Bottles sold in year 10 = 10000. Note the change in
growth rates after the first five years. Therefore, nominal revenue for the 10th year of production = 3.50 x (1.05^5) x (1.02^5) x (1.03^10)
x 10000 = 66281
7. Nominal value of total labor cost in the 25th year of production is 5000 x (1.05^24) x (1.03^24) = 32780
8. After tax value of opportunity costs from rental loss on land in 25th year is (1-0.35) x 1500 x (1.03^25) = 2041

0.10
2,752 $

0.09
2,852

9. In the 15th year, the cash flows are:

Renovation Cost

-15580

Salvage (from Plant Equipment)

+4674

Depreciation Tax Shield

+1408

After-Tax Profits on Cough Syrup

+28454

After-Tax Opportunity Cost

-1519

Adding these cash flows together, we get that the 15th year nominal cash flow = 17437
10. In the 25th year, the cash flows are:
Salvage (from Renovation)

+4188

Depreciation Tax shield

+399

After-Tax Profits on Cough Syrup

+28361

After-tax Opportunity cost

-2401

Adding these cash flows together, we get that the 25th year nominal cash flow = 30906
11.
12.
13.
14.
15.
16.
17.

DF(years = 15) = 1/(1.1^15) = 0.2394

DF(years = 25) = 1/(1.1^25) = 0.0923
DCF (year = 15) = CF(year = 15) x DF(years = 15) = 17437 x 0.2394 = 4174
DCF (year = 25) = CF(year = 25) x DF(years = 25) = 30906 x 0.0923 = 2852
Net Present Value (NPV) = sum of DCF for all years 0 through 25 = 139213
NPV is positive, so accept this project.
IRR is the discount rate such that the project has NPV = 0. We know that at a discount rate of 10%, the NPV is positive, so the IRR is
above 10%. We can keep increasing the discount rate until the NPV becomes 0. We find that this happens at a rate of 0.297.

Alternatively (perhaps more accurate), you can use built-in Scenario Analysis features in Excel to solve this. Go to Data, What-If
Analysis, select Goal Seek. Set the NPV cell to 0 by changing the value of the Cost of Capital (nominal) cell.
18. This is a sunk cost, not an incremental cost, so it has no effect.
19. This is another Scenario Analysis question, and we can simply change the real rental opportunity cost per year of the land from 1500 to
6000. The NPV becomes 104491
20. The goal is to maximize NPV, so we choose the Cough Syrup Plant.