Question

Questions 2.
You are the newly recruited Finance Officer of FYG Pharmaceutical Ltd, a household pharmaceutical enterprise based in Kumasi. You ascertained that FYG Pharmaceutical Ltd is considering investing GH¢5,175,000.00 in a COVID-19 related vaccine project that is expected to yield an average return of 6.67% on the investment for four years. At the end of this period, the project shall be liquidated for a value determined as 25% of the initial investment. FYG Pharmaceutical Ltd’s weighted average cost of capital (WACC) is 10%.

Required:
a. With the aid of memo, you are required to submit for the attention of the Finance Director your estimation of the present value of FYG Pharmaceutical Ltd’s cash flow expectations at the end of the fourth ear.

b. In your memo, suggest three (3) potential sources of finance for this project. You are to include your possible recommendation(s) together with reasons.

c. Differentiate between capital market and primary market.

Answer 1

Answer to Part a :

Present Value = Cash flows discounted at WACC

i.e. = 5,175,000 * 6.67% * PVAF @ (10% , 4) + 5,175,000 * 25% * PVIF @ (10% , 4)

i.e. = 5,175,000 * 6.67% * 3.17 + 5,175,000 * 25% * 0.683

i.e. = 1,094,196.83 + 883,631.25

i.e. = GH¢ 1,977,828.08

Answer to Part b :

Three potential sources of finance for this project can be :

1. Debt Capital : The company raise debt capital by either taking a medium term bank loan or issue debentures to public. Cost of debt capital is relatively less than company's WACC of 10% and hence will be cheaper. Also, its interest cost should be less than projects' average return.

2. Equity Capital : The company can raise equity capital to finance this project as equity capital has no committed recurring payments and are to be repaid last in case of liquidation.

3. Preference Share capital : Preference shares can be issued to public to get funds. This source is a hybrid of debt and equity and hence can be used to combine their benefits.

Answer to Part c :

Capital Market is a market where capital securities like equity shares, bonds, etc. are issued and traded. It consists of Primary market and Secondary Market. Primary market is a part of capital market wherein new securities are issued and subscribed through IPOs (Initial Public Offer) and FPOs (Further Public Offers). It is also called the new issue market. Secondary market is the stock exchange market wherein securities are traded/exchanged between public/security holders.

Hence, Primary market is a subset of Capital Market.