As a recent graduate of the UWIOC, The General Manager of the company has hired you to work alongside the Financial Controller of the company to help determine whether the company should invest in the new product line. He has provided you with the following questions to guide you in your assessment of the project and to present your findings to the Company.

1. Determine the weighted average cost of capital (WACC) for Vigour Pharmaceuticals. (Formula to be used below)

rate to evaluate the project. The following information about the Vigour Pharmaceuticals Ltd. is considering investing in a new company's sources of financing is provided below: production line for its pain-reliever medicine for individuals who suffer from cardio vascular diseases. The company has to invest in a. The company will contract a new loan in the sum of $2,000,000 equipment which costs $2,500,000 and will be depreciated under the that is secured by machinery and the loan has an interest rate MACRS system for a 5 -year asset class. It is expected to have a scrap of 6 percent. value of $700,000 at the end of the project. Other than the equipment, the company needs to increase its cash and cash equivalents by b. Vigour Pharmaceuticals has also issued 4,00 new bond issues $100,000, increase the level of inventory by $30,000, increase with an 8 percent coupon, paid semi-annually and matures in 10 accounts receivable by $250,000 and increase account payable by years. The bonds were sold at par, and incurred floatation cost $50,000 at the beginning of the project. Vigour Pharmaceuticals expect of 2 percent per issue. the project to have a life of five years. The company would have to pay for transportation and installation of the equipment which has an c. The company's preferred stock pays an annual dividend of 4.5 invoice price of $450,000. percent and is currently selling for $60, and there are 100,060 shares outstanding. The company has already invested $75,000 in Research and Development and therefore expects a positive impact on the demand for the new d. There are 300,000 illion (Delete 'million') shares of common pain-reliever. Expected annual sales for the product in the first stock outstanding, and they are currently selling for $21 each. three years are $600,000 and $850,000 in the following two years. The The beta on these shares is 0.95 . variable costs of production are projected to be $267,000 per year in years one to three and $375,000 in years four and five. Fixed overhead Other relevant information is as follows: is $180,000 per year over the life of the project. 1. The 20-year Treasury Bond rate is currently 4.5 percent and you The introduction of the new line of pain reliever will cause a net have estimated market-risk premium to be 6.75 percent using the decrease of $50,000 in profit contribution due to a decrease in sales returns on stocks and Treasury bonds. of the other lines of pain relievers produced by the company. By investing in the new product line vigour Pharmaceuticals would have i1. Vigour Pharmaceuticals has a marginal tax rate of 35 percent. In to use a packaging machine which the company already has. It is fully the event of a negative taxable income, the tax is computed as depreciated and could be sold at the end of the project for $350,000 usual and is reported as a negative number, indicating a after-tax in the equipment market. reduction in loss after tax. The company's financial analyst has advised vigour Pharmaceuticals to use the weighted average cost of capital as the appropriate discount The Weighted Average Cost of Capital (WACC) The WACC is found by weighting the cost of each specific type of capital by its proportion in the firm's capital structure to find the average cost of funds over the long run. To determine the weights to use, simply add the total dollar amount of long-term financed capital and divide each component by the total amount to find it proportion. ra=(wiri)+(wprp)+(wsrn) Where: wt= proportion of long-term debt in capital structure wr= proportion of preferred stock in capital structure w = proportion of common stock in capital structure Note that wi+wp+ws=1.0 rate to evaluate the project. The following information about the Vigour Pharmaceuticals Ltd. is considering investing in a new company's sources of financing is provided below: production line for its pain-reliever medicine for individuals who suffer from cardio vascular diseases. The company has to invest in a. The company will contract a new loan in the sum of $2,000,000 equipment which costs $2,500,000 and will be depreciated under the that is secured by machinery and the loan has an interest rate MACRS system for a 5 -year asset class. It is expected to have a scrap of 6 percent. value of $700,000 at the end of the project. Other than the equipment, the company needs to increase its cash and cash equivalents by b. Vigour Pharmaceuticals has also issued 4,00 new bond issues $100,000, increase the level of inventory by $30,000, increase with an 8 percent coupon, paid semi-annually and matures in 10 accounts receivable by $250,000 and increase account payable by years. The bonds were sold at par, and incurred floatation cost $50,000 at the beginning of the project. Vigour Pharmaceuticals expect of 2 percent per issue. the project to have a life of five years. The company would have to pay for transportation and installation of the equipment which has an c. The company's preferred stock pays an annual dividend of 4.5 invoice price of $450,000. percent and is currently selling for $60, and there are 100,060 shares outstanding. The company has already invested $75,000 in Research and Development and therefore expects a positive impact on the demand for the new d. There are 300,000 illion (Delete 'million') shares of common pain-reliever. Expected annual sales for the product in the first stock outstanding, and they are currently selling for $21 each. three years are $600,000 and $850,000 in the following two years. The The beta on these shares is 0.95 . variable costs of production are projected to be $267,000 per year in years one to three and $375,000 in years four and five. Fixed overhead Other relevant information is as follows: is $180,000 per year over the life of the project. 1. The 20-year Treasury Bond rate is currently 4.5 percent and you The introduction of the new line of pain reliever will cause a net have estimated market-risk premium to be 6.75 percent using the decrease of $50,000 in profit contribution due to a decrease in sales returns on stocks and Treasury bonds. of the other lines of pain relievers produced by the company. By investing in the new product line vigour Pharmaceuticals would have i1. Vigour Pharmaceuticals has a marginal tax rate of 35 percent. In to use a packaging machine which the company already has. It is fully the event of a negative taxable income, the tax is computed as depreciated and could be sold at the end of the project for $350,000 usual and is reported as a negative number, indicating a after-tax in the equipment market. reduction in loss after tax. The company's financial analyst has advised vigour Pharmaceuticals to use the weighted average cost of capital as the appropriate discount The Weighted Average Cost of Capital (WACC) The WACC is found by weighting the cost of each specific type of capital by its proportion in the firm's capital structure to find the average cost of funds over the long run. To determine the weights to use, simply add the total dollar amount of long-term financed capital and divide each component by the total amount to find it proportion. ra=(wiri)+(wprp)+(wsrn) Where: wt= proportion of long-term debt in capital structure wr= proportion of preferred stock in capital structure w = proportion of common stock in capital structure Note that wi+wp+ws=1.0