Case Study
Questions for the Aqua Bounty case
What are the principal sources of uncertainty facing Aqua Bounty? Does it make sense for the firm to launch an IPO now? (14 pt)
Baseline revenues and projections for Aqu Advantage’s revenues and costs are given in Exhibit 5. Note that they will be realized only if FDA approval is received for the product. If FDA approval is received, the company estimates that there is an equal chance of each of three commercialization scenarios occurring. Under the “low” scenario, revenues would be 75% lower than under the baseline; under the “high” scenario, revenues would be 75% higher than under the baseline; the baseline scenario is given in Exhibit 5. In all three scenarios, COGS would be 20% of revenues, and annual SG&A costs of £4 million plus 5% of revenues will be incurred. Product commercialization costs will be the same in all three scenarios, as shown in Exhibit 5.
Build a simple cash flow model for Aqu Advantage’s, assuming that FDA approval is received. Use this to calculate the value of the product line under each of the three scenarios. Assume that Aqua Bounty will face FDA approval costs (associated with its regulatory trials and submissions) of £2.5 million per year for the first three years. Assume no interest payments as the firm’s debts will be paid in full using proceeds from the IPO. The firm has a tax rate of 35% and unlevered cost of capital of 14%. For each scenario, calculate: (16 pts)
The PV of the product commercialization costs
The PV of the free cash flows from the product line, not including commercialization costs and FDA approval costs.
What is the value of the AquAdvantage product now (in year 2005) based on real option valuation? Use the B-S option valuation spreadsheet (BS option pricing.xlsx) that is posted on Canvas. Think carefully about what is the exercise price and what is the value of the underlying in this real option. (20 pts)
