Question

Students in ISDS 3711 are introduced to different quantitative tools. They practice how to apply these tools, how to formulate problems and how to solve them using Excel and different Excel add-ins in the HW assignments. Problems in HW assignments are typically well structured. The students are told which tool they should apply and they are provided with the data that they need. These structured HW assignments do not teach students how to approach an unstructured decision situation where it is not clear which tools to apply and which information to collect. The following HW assignment has been developed as a way for students to practice these important skills.

The assignment is based on the Case: Project Portfolio Management at XYZ Pharma that was developed at London School of Economics. The case describes the R&D project selection and prioritization problem at a major pharmaceutical company, a recurrent issue of strategic importance to the company. Students will not be asked to conduct an actual quantitative analysis but to start thinking about how they would frame the project, which quantitative tools they might use and which information to collect.

Students will work on this assignment individually. They will be asked to read the case and then answer the following questions. We do not ask the students to actually conduct a quantitative analysis but we ask them to formulate the problem in the context a quantitative analysis.

Part 1 – Framing the Project Portfolio Management Problem

Develop a decision framework for project portfolio management at XYZ:

• What are the objectives?

• What are the constraints?

• What are the risks involved?

• What are your alternatives?

• What information is required for project portfolio management at XYZ and how can it be collected?

Part 2 – Project Valuation

Before thinking about appropriate portfolio decisions, the value of each project in the portfolio needs to be determined. How would you determine the value of the following project (‘Project 1’) in XYZ’s portfolio, a project in the pre-clinical phase, part of the Oncology therapeutic area? What additional information would you collect? Which quantitative tool(s) might help you in determining the value of the project?

Project 1

Phase Pre-Clinical
Launch Year 2009
Probability of Technical Success 5%
Net Sales (if success) $4,753 million
Pre-launch costs (including R&D cost) $152 million

Part 3 – Project Risk

When implementing project 1, you face technical and market risk. How would you assess the risks embedded in Project 1? What additional information would you collect? Which quantitative tool(s) might help you in determining the project risk?

Part 4 – Project Portfolio Decisions

Suppose that next year’s R&D budget for the oncology area has been reduced to $50 million. How would you decide which projects to continue, and which to put on hold? What additional information would you collect? Which quantitative tool(s) might help you in determining the best portfolio?

Answer 1

Part 1:

Objectives: To aid the R&D project selection and prioritization in order to develop a product that reduces costs and maximizes the revenue.

Constraints: Competition is usually between brand-name drugs. Constraints for the study include risky drug discovery and development which could cause harm to participants and also waste money used on development. Other restrictions include the amount of time spent on Research and Development which leads to increased costs. There is also the concern with low return on investments and the emergence of generic drugs and competitors.

Risks: There are both technical and commercial risks involved. The most risky aspect of the project is within the research and development process. Drug discovery and development is extremely risky, time-consuming, and expensive. Millions of dollars are spent in the R& D process and many of the drugs created do not make it past the Basic Research stage. The risks associated with low return on investment or no return at all on the investment pose a big risk for pharmaceutical companies.

Alternatives: The company can choose to allocate resources to other projects or services besides pharmaceutical drugs.The company can reduce the cost of manufacturing the already tested drugs or it can diversify to manufacturing more generic drugs which are already in the market and improve their marketing strategies.

Information required: Data about similar independent research and development projects including their cost. It can be collected through independent research agencies or by using forecasting models and extrapolating similar research projects.

Part 2:

I would build a model to calculate the costs assuming that Project 1 is fully successful and also assuming that Project 1 fails and forecast the cash flows and returns after combining both the cases. If that return is greater than the overall portfolio return which comprises of all the projects, I would go ahead with Project 1. If not, I would re-asses the project to see if any costs can be further reduced and if not, would shelve the project.

The additional information I would need are the portfolio returns, the costs of Project 1 that could be used for current or future developments so they are useful even if Project 1 fails.

The quantitative tools that might help could be Linear Programming, Probability and expected value calculations and Forecasting.

Part 3:

Project 1 embedded risk can be assessed by evaluating the market risk, success/failure rate of the project.

I would collect the risk profiles of similar projects.

The quantitative tool that might help in using the averages of other similar projects risk is forecasting.

Part 4:

If the R&D budget for next year has been reduced to $50 million, the project with highest return on investment (ROI), in terms of the organization as a whole, should be selected. The projects to be placed on hold should be ranked according their (ROI) ability to maximize value. The project with the highest ROI should be given first priority and all other projects placed on hold are ranked according to its ROI—its ability to maximize the value of the organization as a whole.

I would collect the information about the other projects in the Oncology area and see if any of those can be shelved if those are not financially feasible anymore or if their returns are lesser than those of Project 1. The projects that do not meet the threshold portfolio return will be put on hold while the ones that meet/exceed the returns would be continued.

The quantitative tools that might help could be Linear Programming, Regression, Plotting and Forecasting.