Problem 1

A large community hospital is considering buying a robot to perform robotic surgeries. The cost of the technology is $20 mil, the set-up costs are $0.5 mil. The management estimates that it will cost them about $5 mil in foregone revenue to train physicians and other staff to operate the unit in the first year of operation. After that, the robot is expected to bring $3 mil per year, which will grow at 7% annually. The cost of capital is 10%. Should the hospital pursue this investment? Why or why not?

Problem2

Use the quality maximization model to describe the role not-for-profit hospitals play in the diffusion of new medical technologies. Illustrate your answer on a graph.

Problem 3

New Dawn pharma is considering the acquisition of a small biotech companySunset Pharmaceuticals. Sunset is developing a new drug that, if successful, would revolutionize the treatment of pancreatic and/or liver cancer. Sunset is about to start Phase I of the clinical testing for the new drug. New Dawn estimates that if they acquired Sunset the costs associated with Phase I testing would be around $60 million. They believe the probability of successful Phase I testing is 30%.

Phase 2 testing for the pancreatic cancer and/or liver cancer indication would cost $170 million. The probability that Phase 2 testing will show effectiveness for pancreatic cancer is 25%. The probability that Phase II will show clinical efficacy for liver cancer only is 45%.

Phase 3 testing for the pancreatic cancer indication will cost $300 million. The probability that Phase 3 testing for pancreatic cancer will be successful is 40%, and the cost of launching the drug for the pancreatic indication only will be $250 million. New Dawn estimates that future cash flows from a successful pancreatic cancer indication will be in the vicinity of $10 billion.

Phase 3 testing for the liver cancer indication only will cost $350 million. The probability that Phase 3 testing will show effectiveness for liver cancer is 70%, and the cost of launching the drug for the liver indication only will be $200 million. Estimates for future cash flows from a successful liver cancer launch are in the vicinity of $20 billion.

(All cash flows are expressed in after-tax present values discounted to time zero, including capital expenditure.)