Historical Average Monthly Market Risk Premium & Expected FCFs of ABC Vaccines Case Study - Finance Assignment Help  

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ABC Vaccines Case Study 

On January 1st, 2020 you have been approached by a former friend, Sebastian, who is seeking equity capital for his firm ABC Vaccines. ABC Vaccines has no assets and Sebastian is the current sole owner/entrepreneur. However, Sebastian is seeking to start a vaccine research project for which the upfront investment outlay is $400,000.  Sebastian offers you a 20% equity stake in return for $400,000, which he will use to invest in the project. You currently hold a fully-diversified portfolio and have sufficient cash in your bank account should you wish to accept the offer (and you can ignore taxes as your portfolio is in a special superannuation fund with zero taxes, and ABC  Vaccines pays no corporate taxes due to a government incentivization scheme). 
After carrying out your own due diligence, you find that: 
• FCF during year 1 will be zero. 
• At the end of year 1, the results of the research project will be complete. You  believe there is a: 
- 90% chance of failure, in which case ABC Vaccines’s assets will be worth zero. 
- 5% chance of partial success, in which case the vaccine can be developed at an upfront cost of $1 million. It will then produce an expected  FCF of $750,000 at the end of year 2 with a negative growth rate of -3%  and a life of only 5 years (i.e., last FCF received at end of year 6). 
- 5% chance of huge success, in which case the vaccine can be developed at an upfront cost of $2.5 million. It will then produce an expected FCF of $2 million at the end of year 2 with a perpetual growth rate of +2.5%.  
• To estimate the applicable discount rate for these free cash flows, you find 3  comparable exchange-listed firms: Meeny, Miney, and Mo. You believe that the beta of the vaccine research project is equal to a weighted average of the unlevered asset betas for these three firms, with a weighting of 25% on  Meeny, 50% on Miney (because it is most comparable!), and 25% on Mo.

The assignment questions are provided overleaf.
Section 1: Expected FCFs of ABC Vaccines
A) What are the expected free cash flows in year 1, 2, 3, 4, and 5.
B) At what growth rate will the expected free cash flows grow from year 6  onwards? 

Section 2: Discount Rate for ABC Vaccines 
A) What are the unlevered asset betas for Meeny, Miney, and Mo? Note Meeny’s current share price is $0.042 and it has 250 million shares outstanding
B) Using the specified weightings, what is your estimate of ABC Vaccines’s unlevered asset beta? 
C) Using the given data, what is the historical average monthly market risk premium? Do NOT annualize. 
D) Hence, what is your estimate for ABC Vaccines’s WACC? Briefly discuss in a maximum of 6 sentences whether or not this calculated WACC is an accurate estimate of your opportunity cost of capital.

Section 3: Valuation and Final Offer
A) What is the NPV of the vaccine research project? Use the effective annual  WACC. 
B) Is Sebastian’s offer overvalued, undervalued, or fair? If it is overvalued, what is the minimum equity stake in ABC Vaccines (as a percent) that you should be willing to accept? 

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