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CASE ANALYSIS

I Wish I Had a Crystal Ball

Submitted by:
Keren Kezia Camalon
Thaddeaus Embile
Anika Mae Fiero
Scarlet Gabayoyo
Antonette Somcio

Submitted To:

Sir Felix Cena, CPA, PhD


I. Point of View

Kenneth May, having a bachelors degree in chemistry and an MBA in


finance is the product development manager for Premier Pharmaceuticals
and has a new proposal accompanying an analysis with regards to the newly
developed drug named ClearView. During his seven years of service with the
company, his degree was put to a test when three of his project
recommendations caused large cost to the company. Now he is at stake and
he wants to regain the confidence of the management through his new
proposal. He will be faced by a lot of questions and uncertainties but he is
more than willing to make this opportunity as a way to maximize the potential
benefit of this project to the company and to his own accord.

II. Statement of the Problem

Premier pharmaceuticals is a large pharmaceutical company. The


companys vision research division had developed a new drug they called
Clearview, a cure for myopia, which they believe will revolutionize the world of
ophthalmology and the pharmaceutical industry. If they maximize this
opportunity, they will be the first among their competitors to offer this to the
market. But there is a plague which they cant avoid not to dwell. The
company is having difficulty as regards to accurately estimating the projects
risks and returns primarily because they cant confirm when they will receive
the approval from the Food and Drug Administration (FDA). Given this
hindsight, they need the assistance of Kenneth May to come up with a
strategic option that will alleviate costs and maximize potential benefits.
III. Objectives

Kenneth Mays Standpoint:


To identify strategic options that will potentially benefit the entity.
To select the best option that can increase market share.
To have the best estimate of risk and returns of the project.
To make a decision that can maximize the potential of entering first into this
market against competitors.

IV. Areas of Consideration

In order to come up with the best strategic option that can add value to the
company, the following are the considerations:

The increase/decrease of the testing and marketing cost and its effect
on best/worst case scenario analysis.
The level of market penetration and its profitability
The length of time for FDAs approval
Establishing a strategic option
Competitors

V. Alternative Courses of Action


Strategic Options are series of options or alternatives that a company may
decide from what will impact their cash flow and efficiency of their daily
operations in the years to come. It includes opportunities for a company to
expand and cease projects if certain conditions may arise based on the
changing environment. The company would like to identify the best action
considering all the factors and risks that might affect the project. An analysis
for a timing option is needed for this case study.

Option 1: Delay the Project for 1 year


Option 2: Delay the Project for 2 years
Option 3: Delay the Project for 3 years

The details in the case give us three possible scenarios namely, Best case
scenario, Most Iikely scenario, and Worst case scenario. We assumed that
the probability is equal. The initial cash inflow is computed as follows

Given Data:
Market Testing Marketing Development
Share Costs Costs Costs Total Costs
$9 $90
Best-Case Scenario 10% million million $80 million $179 million
$10 $100
Most Likely Scenario 8% million million $80 million $190 million
$11 $110
Worst Case Scenario 6% million million $80 million $201 million

Best Case Scenario (10%)


Year
0 1 2 3 4 5
Population With Myopia 40.0 41.2 42.4 43.7 45.0 46.4
Market Share (10%) 0 4.12 4.24 4.37 4.50 4.64
Net Cash Flow @ $10 0 41.20 42.44 43.71 45.02 46.37
Cost of Capital (12%) 0.893 0.797 0.712 0.636 0.567
PV of Cash Flows 36.79 33.83 31.11 28.61 26.31
Year
6 7 8 9 10
Population With Myopia 47.8 49.2 50.7 52.2 53.8
Market Share (10%) 4.78 4.92 5.07 5.22 5.38
Net Cash Flow @ $10 47.76 49.19 50.67 52.19 53.76
Cost of Capital (12%) 0.507 0.452 0.404 0.361 0.322

PV of Cash Flows 24.20 22.25 20.47 18.82 17.31


Net Present Value (NPV)
PV of Cash Inflows $259.7
PV of Cash Outlay $179
Net Present Value $80.7

Most Likely Scenario (8%)


Year
0 1 2 3 4 5
Population With Myopia 40.0 41.2 42.4 43.7 45.0 46.4
Market Share (8%) 0 3.30 3.39 3.50 3.60 3.71

Net Cash Flow @ $10 0 32.96 33.95 34.97 36.02 37.10

Cost of Capital (12%) 0.893 0.797 0.712 0.636 0.567

PV of Cash Flows 29.43 27.06 24.89 22.89 21.05

Year
6 7 8 9 10
Population With Myopia 47.8 49.2 50.7 52.2 53.8
Market Share (8%) 3.82 3.94 4.05 4.18 4.30

Net Cash Flow @ $10 38.21 39.36 40.54 41.75 43.01

Cost of Capital (12%) 0.507 0.452 0.404 0.361 0.322

PV of Cash Flows 19.36 17.80 16.37 15.06 13.85

Net Present Value (NPV)

PV of Cash Inflows $207.76


PV of Cash Outlay $190
Net Present Value $17.76
Worst Case Scenario (6%)
Year
0 1 2 3 4 5
40.
Population With Myopia 0 41.2 42.4 43.7 45.0 46.4
Market Share (6%) 0 2.47 2.55 2.62 2.70 2.78

Net Cash Flow @ $10 0 24.72 25.46 26.23 27.01 27.82

Cost of Capital (12%) 0.893 0.797 0.712 0.636 0.567

PV of Cash Flows 22.07 20.30 18.67 17.17 15.79

Year
6 7 8 9 10
Population With Myopia 47.8 49.2 50.7 52.2 53.8
Market Share (8%) 2.87 2.95 3.04 3.13 3.23

Net Cash Flow @ $10 28.66 29.52 30.40 31.31 32.25

Cost of Capital (12%) 0.507 0.452 0.404 0.361 0.322

PV of Cash Flows 14.52 13.35 12.28 11.29 10.38

Net Present Value (NPV)

PV of Cash Inflows $155.82


PV of Cash Outlay $201
Net Present Value $-45.18

NPV
Best Case Scenario $80.7
Most Likely Scenario $17.76
Worst Case Scenario $-45.18
53.28
Probability 0.3333333
Expected NPV 17.76
Thus, there is a 1/3 probability that the market conditions will be in its best
case, in which the project will generate cash flows as shown above. There is
also a 1/3 probability that market conditions will be in a most likely scenario,
in which the project will generate cash flows as shown above. There is also a
1/3 probability that market conditions will be in worst case, in which the
project will generate cash flows as shown above.

. In this section, we will see the companys cash inflows if the


company will delay the project for 1 year.

YEAR
0 1 2 3 4 5
Best Case Scenario
(10%) ($179) 42.44 $43.71 45.02 46.37

Cost of Capital (12%) 0.893 0.797 0.71 0.636

PV of Cash Inflows 37.89 34.85 32.04 29.47

YEAR
6 7 8 9 10 11
Best Case Scenario
(10%) 47.76 49.19 50.67 52.19 53.76 55.37

Cost of Capital (12%) 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash Inflows 27.10 24.92 22.92 21.08 19.39 17.83

Net Present Value


(NPV)

PV of Cash Inflows 267.49


PV of Cash Outlay 179
Net Present Value 88.49
YEAR
0 1 2 3 4 5
Most Likely Scenario (8%) ($190) 33.95 34.97 36.02 37.1

Cost of Capital (12%) 0.893 0.797 0.71 0.636

PV of Cash Inflows 30.31 27.88 25.64 23.58

YEAR
6 7 8 9 10 11
Most Likely Scenario (8%) 38.21 39.36 40.54 41.75 43.01 44.3

Cost of Capital (12%) 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash Inflows 21.68 19.94 18.34 16.86 15.51 14.26

Net Present Value (NPV)

PV of Cash Inflows 214.00


PV of Cash Outlay 190.00
Net Present Value 24.00

YEAR
0 1 2 3 4 5
Worst Case Scenario (6%) ($201) 25.46 26.23 27.01 27.82
Cost of Capital (12%) 0.893 0.797 0.71 0.636
PV of Cash Inflows 20.3 18.67 17.17 15.79

YEAR
6 7 8 9 10 11
Worst Case Scenario (6%) 28.66 29.52 30.4 31.31 32.25 33.22
Cost of Capital (12%) 0.567 0.507 0.452 0.404 0.361 0.322
PV of Cash Inflows 16.26 14.96 13.75 12.65 11.63 10.70
Net Present Value (NPV)
PV of Cash Inflows 151.87
PV of Cash Outlay $201
Net Present Value -49.13
Best Case Scenario 88.49
Most Likely Scenario 24.00
Worst Case Scenario -48.82
63.67
Probability 1/3
Expected NPV 21.22333

Here we can see the weight and probability of each scenario and the NPV of the
project if it will be delayed for 1 year. The NPV is positive which shows that this project
will realize an inflow.

In this section, we will see the companys cash inflows if the company will
delay the project for two years.

YEAR
0 1 2 3 4 5 6
Best Case Scenario
(10%) ($179) 43.71 45.02 46.37 47.76

Cost of Capital (12%) 0.893 0.797 0.71 0.636

PV of Cash Inflows 39.0268 35.89 33.01 30.35

YEAR
7 8 9 10 11 12
Best Case Scenario
(10%) 49.19 50.67 52.19 53.76 55.37 57.03

Cost of Capital (12%) 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash Inflows 27.91 25.67 23.61 21.71 19.97 18.36

Net Present Value


(NPV)

PV of Cash Inflows 275.51


PV of Cash Outlay 179
Net Present Value 96.51
YEAR
0 1 2 3 4 5 6
Most Likely
Scenario (8%) ($190) 34.97 36.02 37.1 38.21

Cost of Capital
(12%) 0.893 0.797 0.71 0.636

PV of Cash
Inflows 31.22 28.71 26.41 24.28

YEAR
7 8 9 10 11 12
Most Likely
Scenario (8%) 39.36 40.54 41.75 43.01 44.3 45.62

Cost of Capital
(12%) 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash
Inflows 22.33 20.54 18.89 17.37 15.98 14.69

Net Present
Value (NPV)

PV of Cash Inflows 220.42


PV of Cash Outlay 190
Net Present Value 30.42

YEAR
0 1 2 3 4 5 6
Worst Case Scenario
(6%) ($201) 26.23 27.01 27.82 28.66

Cost of Capital (12%) 0.893 0.797 0.712 0.636

PV of Cash Inflows 18.67 17.17 15.79 18.21


YEAR
7 8 9 10 11 12
Worst Case Scenario
(6%) 29.52 30.4 31.31 32.25 33.22 34.22

Cost of Capital (12%) 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash Inflows 16.75 15.40 14.16 13.03 11.98 11.02

Net Present Value


(NPV)

PV of Cash Inflows 152.18


PV of Cash Outlay $201
Net Present Value -48.82

Best Case Scenario 96.51


Most Likely Scenario 30.42
Worst Case Scenario -48.82
78.11
Probability 1/3
Expected NPV 26.03667

Here we can see the weight and probability of each scenario and the NPV
of the project if it will be delayed for 1 year. The NPV is positive which shows
that this project will realize an inflow.

In this section, we will see the companys cash inflows if the


company will delay the project for 3 years.

YEAR
0 1 2 3 4 5 6
Best Case
Scenario (10%) ($179) 45.02 46.37 47.76

Cost of Capital
(12%) 0.893 0.797 0.71

PV of Cash
Inflows 40.20 36.97 33.99
YEAR
7 8 9 10 11 12 13
Best Case
Scenario (10%) 49.19 50.67 52.19 53.76 55.37 57.03 58.74

Cost of Capital
(12%) 0.636 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash
Inflows 31.26 28.75 26.44 24.32 22.36 20.57 18.91

Net Present
Value (NPV)

PV of Cash Inflows 283.77


PV of Cash Outlay 179
Net Present Value 104.77

YEAR
0 1 2 3 4 5 6
Most Likely Scenario (8%) ($190) 36.02 37.1 38.21

Cost of Capital (12%) 0.893 0.797 0.71

PV of Cash Inflows 32.16 29.58 27.20

YEAR
7 8 9 10 11 12 13
Most Likely Scenario (8%) 39.36 40.54 41.75 43.01 44.3 45.62 46.99

Cost of Capital (12%) 0.636 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash Inflows 22.33 20.54 18.89 17.37 15.98 14.69 15.13

Net Present Value (NPV)

PV of Cash Inflows 213.86


PV of Cash Outlay 190
Net Present Value 23.86
YEAR
0 1 2 3 4 5 6
Worst Case
Scenario (6%) ($201) 27.01 27.82 28.66

Cost of Capital
(12%) 0.893 0.797 0.712

PV of Cash
Inflows 24.12 22.18 20.40

YEAR
7 8 9 10 11 12 13
Worst Case
Scenario (6%) 29.52 30.4 31.31 32.25 33.22 34.22 35.24

Cost of Capital
(12%) 0.636 0.567 0.507 0.452 0.404 0.361 0.322

PV of Cash 18.7604 15.8626 14.5882 13.41 12.3400 11.3463


Inflows 9 17.25 2 6 7 8 4

Net Present
Value (NPV)

170.2
PV of Cash Inflows 6
PV of Cash Outlay $201
-
Net Present Value 30.74

Best Case Scenario 104.77


Most Likely Scenario 23.86
Worst Case Scenario -30.74
97.89
Probability 1/3
Expected NPV 32.63

Here we can see the weight and probability of each scenario and the NPV
of the project if it will be delayed for 1 year. The NPV is positive which shows
that this project will realize an inflow.
VI. Analysis of the Alternative Causes of Action
VII. Conclusion and Recommendation
Therefore we conclude, based on the given data that we were provided
with and with the computations arrived at to accept the project. With the
positive results and profitable outcome, it is advisable to be accepted.
1. What is a real option? Explain how this project can be viewed as
a real option.
A real option itself is the right but not the obligation to undertake certain
business initiatives, such as deferring, abandoning, expanding, staging, or
contracting a capital investment project.
In Kenneths initial scenario analysis, he assumed that FDA will approve
their Clearview project. Based on Kenneths analysis, they will keep the
testing nag marketing cost at $110 million and have a market penetration of
8%.
2. If you were a director on premier pharmaceuticals board would
you agree with Kenneths analysis? Explain.

3. How would the numbers turn out after taking into consideration
the contingency that the drug may not be sold until year 2 or 3
due to delay in getting FDA approval?

4. What are strategic options? What kind of strategic options


would apply in this case?
It is the acceptance of negative NPV projects that have strategic
advantages for future business growth. Strategic options are creative alternative
action-oriented responses to the external situation that an organization or group
of organizations faces. These options take advantage of facts and actors, trends,
opportunities and threat of the outside world and would only apply if they make a
niche in the whole optical health area. The strategic option that would apply in
this case is the explicit real option.