Yuli Copters is in the business of designing and manufacturing helicopters for commercial, military and pleasure use. They are considering a $200 million upgrade to their production line for the Yuli Flyer-a remote fly drone helicopter with a payload of 300 pounds. The potential cash flow is estimated at net revenues of $160 million per year for four years. Recently, they were advised of potential patent infringement and to eliminate this problem they are considering buying a license. SohnCo will sell a license is good for four years of exclusive use of the patent and associated intellectual property. Yuli Copters uses a corporate MARR of 12% and their risk-free alternatives are 6%. The VP of Engineering at Yuli Copters estimates market volatility in demand is 35%. The VP of Marketing estimates market volatility in demand at 25%.
Since the VP's trust you, they asked you to figure out the most they should pay for a license from SohnCo.
Yuli Copters is known to be aggressive in ignoring intellectual property claims. Imagine they just go ahead with the project as stated above. (In other words, they decide not to pay for the license.) Sometime in year 3 of 7, a court decision requires them to reimburse SohnCo $25 million. They pay at the end of year 4. How does this strategy work for them? Are they better off licensing or being aggressive?