New product in Pharmaceutical company

Question

Your client Baxter International Inc. is a large pharmaceutical company based in the United States. The company primarily focuses on pharma products to treat hemophilia, kidney disease, immune disorders and other chronic and acute medical conditions.

The client Baxter just got U.S. Food and Drug Administration (FDA) approval for a new Insulin glargine based anti-diabetic drug that is expected to become a big hit for the company. A previous market study shows that the demand will be very high for this new diabetes drug. Therefore, your client Baxter International will have to either expand its current factory in Texas or build a new one in Virginia, closer to the port.

How will you approach this problem and help your client make a decision? Which of the two options would you recommend?

Answer 1

Hi there,

the main issue of this problem is obviously the investment in the factory (let's call current factory expansion "Option A" and new factory construction "Option B") and this is how I would frame it:

- Revenues for the new drug: number of units sold * price per unit.

The number of units sold is given by the demand in the market so I would make an hypothesis for the size of the market (number of people living in the US / number of General Practitioners entitled to prescribing the drugs to the patients / % of patients of these G.P. who have diabetes / etc.) from the which I can come up with an assumption of the demand that our product will generate. Then I can start to assess the full production capacity of Option A and Option B, also considering the time it will take for it to be reached.
The price per unit shouldn't be impacted by the option chosen, it's probably set by the FDA as a production price + markup.

Costs for the new drug: Capital expenses + Operating expenses + Other fixed costs.

The Capex is the investment required by the 2 Options divided by the number of years of ammortization. I'd assume it will be higher for Option B.
The Opex will be the given by the price for producing the new drug (cost of the chemical components used + cost of packaging + other costs of production) plus the cost of transportation: for these costs I would assume the cost of transportation will be the main differentiatior, being Option B close to a port it will probably be lower if we choose that. The price for producing the drug should be only partially affected by the Option chosen, I would maybe assume some economies of scale for Option A might make them slightly lower.
Other fixed costs include overhead, HR costs, utilities, etc. For these probably Option A would represent a saving considering the plant is already there.

The difference between the Revenues and Costs for the two Options can already give a good idea of which option is better. To make the structure even more solid you can also consider other factors like the opportunity to integrate the production of other drugs in Option A or B, the exit costs for the two Options and a benchmark on the choices made by other competitors (do they focus on a single factory or they try to have more plants?) just to give you an example.

Hope this helped.

Best,

marco

Answer 2

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