A bio-technology company is looking to invest $25 billion in new technology that is expected to produce incremental cash flows of $7 billion, $10 billion, and $12 billion in each of the next three years, respectively. The CFO has asked that you and your team determine whether or not the company should invest in the new technology. In order to finance the project, the company will issue new bonds and new equity.

Of the $25 billion in costs, $16 billion will be financed with a new debt issue. In fact, the company is anticipating issuing two different bonds short-term bonds and long-term bonds. Half of the $16 billion in debt capital will be raised with the short-term bond issue while the other half will be raised with the long-term bond issue.

Of the $25 billion in costs, $9 billion will be financed with new equity. Given this information, your objective is to calculate the weighted average cost of capital that then determine whether the future cash flows (in present value terms) are greater than the $25 billion investment.

QUESTION: Now that youve calculated the cost of capital, you can determine whether or not the bio-tech firm should invest in the new technology. Recall, the cost of the initial investment is $25 billion and will result in incremental cash flows of $7 billion, $10 billion, and $12 billion in each of the next three years. Suppose the WACC calculated in problem 22 is 9%. Given this information, calculate the difference between the sum of the present value of these future cash flows and the initial cost of the investment of the new technology. That is, add up the present values of the future cash flows and then subtract the initial cost of the investment. If this difference is positive, then the company should invest. If this difference is negative then the company should not invest. What is this difference?

$3.06 billion

$5.11 billion

-$2.11 billion

$4.51 billion

-$0.90 billion

$1.71 billion

Zero (the difference between the PV of the future cash flows and the cost is zero)

-$1.07 billion