Merck Case Q3

3. Should Merck bid to license Davanrik? How much should they pay?

Our team will recommend Merck bid to license Davanrik given the following reasons:

1. One of the major advantage of the company is its patents of new drugs. According to the case, we know that four drugs will expire by 2002 and those drugs are regarded as the so-called star-products of the company. According to the company’s financial statement, we learn that Merck’s net income margin has declined from 19.52% to 18% and the research and development cost has been decreased in terms of percentage of sales. So we believe that Merck should increase its expenditure on research. On the expiration of the drugs, the sales will decreased dramatically as competition emerges. So in order to maintain its competition edge, the company need to develop new drugs.

2. Even though the company used to develop new compounds primarily through internal research, we believe that working with LAB Pharmaceuticals will give Merck a synergy effect to obtain a better result. Given LAB Pharmaceuticals’ performance in the past, we believe that Merck’s plentiful experience will sure to make to most of the pre-clinical development of Davanrik.

3. According to the balance sheet, we can learn that Merck has sufficient cash to support the licensing process and we believe the company has the ability to absorb the potential loss on failure. So the risk is tolerable for Merck.

So we will suggest Merck bid to license Davanrik.

As for the bid price, we try to calculate the expected return for licensing the Davanrik. In the second question, we built the decision tree that shows the cash flow and probabilities at all stages of the FDA approval process. We then calculate the expected return using the above decision tree by multiplying the possible proceeds with the according probability and minus the associated trial costs. (See appendix)

Even though we could clearly see there exists a real option which gives Merck the chance to...