Surle Labs produces a single pharmaceutical drug, Zolax, for which the patent expires in four years. After the patent expires, Surle will earn no more economic profits after the fourth year passes because 1) dozens of firms will produce a generic version of Zolax that will drive the price of Zolax down to unit costs, and 2) it has invested nothing in research and development of new drugs and so will have no new sources of profit when the patent on Zolax expires in four years.
You work as a research assistant for an investment-banking firm that specializes in acquisitions of pharmaceutical firms. After examining the financial statements of Surle Labs, you predict that Surle will earn $23 million in economic profit in EACH of the next four years, after which, it will earn zero economic profit forever. Your job is to advise a potential buyer of the drug firm on the market value of this firm. You believe 12 percent is the appropriate risk-adjusted discount rate for valuing Surle Labs.
-b. If conditions in the market deteriorate making investment in drug firms more risky than you had originally anticipated, then you will need to use ____________(a lower, a higher, the same) risk-adjusted discount rate, which will _______________(decrease, increase, not affect) the value of Surle Labs.

Question

Quizplus · Accepted Answer

The Answer of Surle Labs produces a single pharmaceutical drug, Zolax, for which the patent expires in four years. After the patent expires, Surle will earn no more economic profits after the fourth year passes because 1) dozens of firms will produce a generic version of Zolax that will drive the price of Zolax down to unit costs, and 2) it has invested nothing in research and development of new drugs and so will have no new sources of profit when the patent on Zolax expires in four years.
You work as a research assistant for an investment-banking firm that specializes in acquisitions of pharmaceutical firms. After examining the financial statements of Surle Labs, you predict that Surle will earn $23 million in economic profit in EACH of the next four years, after which, it will earn zero economic profit forever. Your job is to advise a potential buyer of the drug firm on the market value of this firm. You believe 12 percent is the appropriate risk-adjusted discount rate for valuing Surle Labs.
-b. If conditions in the market deteriorate making investment in drug firms more risky than you had originally anticipated, then you will need to use ____________(a lower, a higher, the same) risk-adjusted discount rate, which will _______________(decrease, increase, not affect) the value of Surle Labs.

Surle Labs Produces a Single Pharmaceutical Drug, Zolax, for Which