2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 NPV Year (i) 1 2 3 4 5 6 7 8 9 10 Total Merck anti-inflammatory / analgesics sales (1) 2677.3 Vioxx Sales (90%) (2) 2409.6 2457.8 2506.9 2557.1 2608.2 2660.4 2713.6 2767.8 2823.2 2879.7 2937.3 $ 29,321 Vioxx Gross Margin (81%) 1986.1 2025.8 2066.3 2107.7 2149.8 2192.8 2236.7 2281.4 2327.0 2373.6 $ 21,747 PV Factor = GM/(1+rate)^n (i=0.05) 1.05 1.10 1.16 1.22 1.28 1.34 1.41 1.48 1.55 1.63 Discounted CF of Vioxx GM = GM / (1+rate)^n 1891.51 1837.47 1784.97 1733.97 1684.43 1636.30 1589.55 1544.14 1500.02 1457.16 $ 16,660 EXCEL NPV Function $ 16,660 (1) From case exhibit 4 (2) Exhibit 4, Footnote 3: Vioxx generated 90% of revenue in the anti-inflammatory/analgesics category values, Materials & NPV = (3) From exh. 3 & 4 - Gross Margin = (Sales - Expenses) / GM % 7-1 (1 + rate)' 22,486 4,315 30.81% Discount Rate 0.05Vim Assignment To get started on this homework problem, you should take a look at the Vicar: spreadsheet on Webampus (Files/Viola: NPV HW) where the following has already been done: 0 This NPV calculation assumes that today is Dec. 31, 2W3 [end of Year 0) and the problem is to calculate the net present value of View: prots to Merck from the end of 2004 (end of year 1) to the end of 2013 (end of Year 10), the date the patent on Victor expires. Sales on Vioxk are assumed to be 2.41 billion for the year 2003, and will grow annually at a rate of 2%. The discount rate is assumed to be 5% and that the Gross Margin (Gross Margin = Sales-Materials 8i Expenses)/Sales) on View: is 81%. (See spreadsheet on Webcampus.) Given all these assumptions, the NPV of Vionx prots from 2004 to 2013 is about $16.6 billion. Now, here is where you start doing some work. Assume that after the W010: patent expires in 2013 the sales of Victor will drop by 60% initially and then decline annually by $200 million until the drug is expected to be pulled from the market in 2020. Thus, sales of Vloxx for 2014-2020 are expected to be: mlmmm Vioxx Sales (millions) 1,175 975 775 575 375 17s Assume the gross margin on View: will remain at 81%. The preliminary evidence suggests Vioxx may pose significant cardiovascular risks for some patients. Ray Gilmartin has asked you analyze the potential impact of this risk on Vion prots. Assume that Merck is considering two options on how to handle the potential liability of Vioxx: 1) Keep Vioxx on the market. continue to earn prots on Vioxx, and ght every lawsuit that is led on Vioxx individually; 2) Remove Won from the market immediately and settle all claims in a class action lawsuit. Merck estimates the potential liability from lawsuits from patients using Vloxx from these two approaches are the following: 1] if Vioxx is kept on the market and Merck ghts each lawsuit individually, then Merck would incur signicant legal fees and would win some and lose some of the lawsuits. The best guess is that the annual expense to Merck would be $1.5 billion each year from 2004-2019. That is, every year that Vioxx is on the market there would be a $1.5b legal cost that must be subtracted from View: prots. So after you calculate the annual gross margin prots from Vioxx you should subtract $1.5b from the gross margin for expected legal expenses to get to the net profit. 2) if Vioxx is pulled from the market immediately (Jan. 1. 2004) then there would be no revenues or profits from Vioxx going forward. The legal strategy would allow a class action lawsuit to proceed. There is a 80% chance that Merck will lose this class action lawsuit and be required to pay a total settlement (includes all fees and damages) of $6 billion. The 56b settlement would be paid in installments of 52b at the end of the years in 2009, 2010 and 2011. There is a 20% chance Merck would win the class action suit and essentially pay nothing. Questions to answer (assume a 5% discount rate for all questions): 1. What is the net present value of leaving Vioxx on the market through 2019? Be sure to take into account both the expected prots that Vioxx will generate and the expected legal expenses; you will need to subtract the expected legal expenses from the expected prots before calculating the NW of the cash ows. 2. What is the expected cost for Merck to pull Vioxx from the market immediately? In answering this question you must take into account that if Merck loses the class action lawsuit the payments won't be made until 2009-2011 (so you must discount these payments back to 2004). Also you must factor in the possibility that Merck might win the class action lawsuit. 3. From a strictly expected prot standpoint, should Merck pull Vioxx from the market immediately or leave it on the market through 2019? Please show all your work either by doing the calculations by hand or printing out your spreadsheet (make sure it is big enough and legiblel)