RUNNING HEAD: MERCK & COMPANY 1

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Assignment Title

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Student Name
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Course Name

Instructor Name
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Date
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 MERCK & COMPANY 2

1) How has Merck been able to achieve substantial returns to capital given the large costs

and lengthy time to develop drugs?

Answer:

Merck has enough resources in terms of money to bear the massive amount of investment for the

development of the new drug. LAB on the other hand do not have such huge amount of money

for getting his drug licensed. Lack of capital forced LAB to licensed his drug from the giant

market player like Merck. After the drug has been licensed by FDA, Merck has the right to

produce the drugs till the expiry of the patent life.

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In this period of patent life Merck has the opportunity for gaining the high profits from the

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production of the drugs. There is a threat that when the patent expires, the new generic drug

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producers will get chance to sell the same drug with the more competitive prices. Facing the
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competitors, the Merck’s will have to reduce the drug prices which reflects the reduction in

profits and even in the sales of the drug.

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To mitigate with that upcoming circumstance Merck have to find ways to maintain its
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competitiveness. For this the new drug have to be developed and get it approved before the

patent life ends. For this the Research and Development team have to play a critical role for the
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success of the company.

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 MERCK & COMPANY 3

2) Build a decision tree that shows the cash flows and probabilities at all stages of the FDA

approval process.

Answer:

Decision tree:

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3) Should Merck bid to license Davanrik? How much should they pay?
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In this current scenario, Merck has to immediately take the decision to bid to Davanrik because
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with the new drug the cash flows of the company will remain stable and shoe constant cashflows

after the expiry of the patent. Through this move Merck will secure its competitive advantage of

being a market leader and the cashflows will remain stable when the patent expires.

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 MERCK & COMPANY 4

Presently, it is gainful move to produce both the medicines which is the one for depression and

the other one is for the weight loss. From the decision we have find that the cash flows of $13.98

million are high and enough that the company can pay any amount for to get the drug licensed,

which is lesser than its net present value NPV.

4) What is the expected value of the licensing arrangement to LAB? Assume a 5% royalty

fee on any cash flows that Merck receives from Davanrik after a successful launch.

Answer:

From the lower part of the decision tree we find that the Merck will not go to test the weight loss

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drug in Phase II. The success of the weight loss drug yield to be $1200000 x 75% which comes

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out to be $90 million. This amount is less than the $150 million. The calculation for the lower

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part of the decision tree indicates:
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Weight loss = $33.75x0.15x0.60

= 3.0 4million
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From the lower side of the decision tree we get the following value:
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= $125million x 0.05x0.05x0.6

= 0.19 million
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Combining both values = 3.04+ 0.19

= 3.23 million
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Current present value = $13.98 million - $3.23million

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= $10.75 million.
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 MERCK & COMPANY 5

5) How would your analysis change if the costs of launching Davanrik for weight loss were

$225 million instead of $100 million?

Answer:

The table below shows the calculations for the expected value.

Expected
Chances Probability Value
Value
Phase I 100% $5,000,000 $5,000,000.00
Phase II 60% $2,500,000 $1,500,000.00
Phase III anti-depression drug 10% 6.00% $20,000,000 $1,200,000.00

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Phase III anti-Weight loss

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15% 9.00% $10,000,000 $900,000.00

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Phase III Both drugs 5% 3.00% $40,000,000 $1,200,000.00

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Success path of anti-
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depression drug upper part
Success path of anti-weight
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75% 7% $17,250,000 $1,164,375.00

loss drug upper part
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Success path of anti-

15% 0.4500% $60,000,000 $270,000.00
depression drug lower part
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Success path of anti-weight

5% 0.15% $17,250,000 $25,875.00
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loss drug lower part

Both success 70% 2% $112,500,000 $2,362,500.00
$16,682,750.00
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Merck’s Investment Decision

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In this current scenario, Merck has to immediately take the decision to bid to Davanrik because

with the new drug the cash flows of the company will remain stable and show constant cashflows

after the expiry of the patent. Through this move Merck will secure its competitive advantage of

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 MERCK & COMPANY 6

being a market leader and the cashflows will remain stable when the patent expires. The R&D

will play a critical role in its success scenario. From the calculations of expected value of profit

gains and from the decision tree we found that the Merck will not go to test the weight loss drug

in Phase II. Because the expected value of investment comes out greater and will disturb the

cashflows. First, they have to completely go for the anti-depression drug than slowly try to

penetrate for the weight-loss drug to maintain its competitive advantage. From the case we found

that the likelihood of completing the approval process from FDA with the forecasting of the

profits will benefit LAB for the next ten years so the Merck’s will enjoy the benefits of success

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for the next ten years as having a competitive advantage of keeping patents.

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