Practical Management Science
6th Edition
ISBN: 9781337406659
Author: WINSTON, Wayne L.
Publisher: Cengage,
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Chapter 11, Problem 77P
It is January 1 of year 0, and Merck is trying to determine whether to continue development of a new drug. The following information is relevant. You can assume that all cash flows occur at the ends of the respective years.
- Clinical trials (the trials where the drug is tested on humans) are equally likely to be completed in year 1 or 2.
- There is an 80% chance that clinical trials will succeed. If these trials fail, the FDA will not allow the drug to be marketed.
- The cost of clinical trials is assumed to follow a triangular distribution with best case $100 million, most likely case $150 million, and worst case $250 million. Clinical trial costs are incurred at the end of the year clinical trials are completed.
- If clinical trials succeed, the drug will be sold for five years, earning a profit of $6 per unit sold.
- If clinical trials succeed, a plant will be built during the same year trials are completed. The cost of the plant is assumed to follow a triangular distribution with best case $1 billion, most likely case $1.5 billion, and worst case $2.5 billion. The plant cost will be
depreciated on a straight-line basis during the five years of sales. - Sales begin the year after successful clinical trials. Of course, if the clinical trials fail, there are no sales.
- During the first year of sales, Merck believe sales will be between 100 million and 200 million units. Sales of 140 million units are assumed to be three times as likely as sales of 120 million units, and sales of 160 million units are assumed to be twice as likely as sales of 120 million units.
- Merck assumes that for years 2 to 5 that the drug is on the market, the growth rate will be the same each year. The annual growth in sales will be between 5% and 15%. There is a 25% chance that the annual growth will be 7% or less, a 50% chance that it will be 9% or less, and a 75% chance that it will be 12% or less.
- Cash flows are discounted 15% per year, and the tax rate is 40%.
Use simulation to model Merck’s situation. Based on the simulation output, would you recommend that Merck continue developing? Explain your reasoning. What are the three key drivers of the project’s
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Chapter 11 Solutions
Practical Management Science
Ch. 11.2 - If the number of competitors in Example 11.1...Ch. 11.2 - In Example 11.1, the possible profits vary from...Ch. 11.2 - Referring to Example 11.1, if the average bid for...Ch. 11.2 - See how sensitive the results in Example 11.2 are...Ch. 11.2 - In Example 11.2, the gamma distribution was used...Ch. 11.2 - Prob. 6PCh. 11.2 - In Example 11.3, suppose you want to run five...Ch. 11.2 - In Example 11.3, if a batch fails to pass...Ch. 11.3 - Rerun the new car simulation from Example 11.4,...Ch. 11.3 - Rerun the new car simulation from Example 11.4,...
Ch. 11.3 - In the cash balance model from Example 11.5, the...Ch. 11.3 - Prob. 12PCh. 11.3 - Prob. 13PCh. 11.3 - The simulation output from Example 11.6 indicates...Ch. 11.3 - Prob. 15PCh. 11.3 - Referring to the retirement example in Example...Ch. 11.3 - A European put option allows an investor to sell a...Ch. 11.3 - Prob. 18PCh. 11.3 - Prob. 19PCh. 11.3 - Based on Kelly (1956). You currently have 100....Ch. 11.3 - Amanda has 30 years to save for her retirement. At...Ch. 11.3 - In the financial world, there are many types of...Ch. 11.3 - Suppose you currently have a portfolio of three...Ch. 11.3 - If you own a stock, buying a put option on the...Ch. 11.3 - Prob. 25PCh. 11.3 - Prob. 26PCh. 11.3 - Prob. 27PCh. 11.3 - Prob. 28PCh. 11.4 - Prob. 29PCh. 11.4 - Seas Beginning sells clothing by mail order. An...Ch. 11.4 - Based on Babich (1992). Suppose that each week...Ch. 11.4 - The customer loyalty model in Example 11.9 assumes...Ch. 11.4 - Prob. 33PCh. 11.4 - Suppose that GLC earns a 2000 profit each time a...Ch. 11.4 - Prob. 35PCh. 11.5 - A martingale betting strategy works as follows....Ch. 11.5 - The game of Chuck-a-Luck is played as follows: You...Ch. 11.5 - You have 5 and your opponent has 10. You flip a...Ch. 11.5 - Assume a very good NBA team has a 70% chance of...Ch. 11.5 - Consider the following card game. The player and...Ch. 11.5 - Prob. 42PCh. 11 - You now have 5000. You will toss a fair coin four...Ch. 11 - You now have 10,000, all of which is invested in a...Ch. 11 - Suppose you have invested 25% of your portfolio in...Ch. 11 - Prob. 47PCh. 11 - Based on Marcus (1990). The Balboa mutual fund has...Ch. 11 - Prob. 50PCh. 11 - Prob. 52PCh. 11 - The annual demand for Prizdol, a prescription drug...Ch. 11 - Prob. 54PCh. 11 - The DC Cisco office is trying to predict the...Ch. 11 - A common decision is whether a company should buy...Ch. 11 - Suppose you begin year 1 with 5000. At the...Ch. 11 - You are considering a 10-year investment project....Ch. 11 - Play Things is developing a new Lady Gaga doll....Ch. 11 - An automobile manufacturer is considering whether...Ch. 11 - It costs a pharmaceutical company 75,000 to...Ch. 11 - Prob. 65PCh. 11 - Rework the previous problem for a case in which...Ch. 11 - Prob. 68PCh. 11 - The Tinkan Company produces one-pound cans for the...Ch. 11 - Prob. 70PCh. 11 - In this version of dice blackjack, you toss a...Ch. 11 - Prob. 76PCh. 11 - It is January 1 of year 0, and Merck is trying to...Ch. 11 - Suppose you are an HR (human resources) manager at...Ch. 11 - You are an avid basketball fan, and you would like...Ch. 11 - Suppose you are a financial analyst and your...Ch. 11 - Software development is an inherently risky and...Ch. 11 - Health care is continually in the news. Can (or...
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