MAKING DECISIONS AT BIO-IMAGING, INC. In 2004, the company Bio-Imaging, Incorporated was formed by James Bates,...
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MAKING DECISIONS AT BIO-IMAGING, INC. In 2004, the company Bio-Imaging, Incorporated was formed by James Bates, Scott Tillman, and Michael Ford, in order to develop, produce, and market a new and potentially extremely beneficial tool in medical diagnosis. Scott Tillman and James Bates were each recent graduates from Massachusetts Institute of Technology (MIT), and Michael Ford was a professor of neurology at Massachusetts General Hospital (MGH). As part of his graduate studies at MIT, Scott had developed a new technique and a software package to process MRI (magnetic resonance imaging) scans of brains of patients using a personal computer. The software, using state of the art computer graphics, would construct a three-dimensional picture of a patient's brain and could be used to find the exact location of a brain lesion or a brain tumor, estimate its volume and shape, and even locate the centers in the brain that would be affected by the tumor. Scott's work was an extension of earlier two-dimensional image processing work developed by James, which had been used extensively in Michael Ford's medical group at MGH for analyzing the effects of lesions on patients' speech difficulties. Over the last few years, this software program had been used to make relatively accurate measurements and diagnoses of brain lesions and tumors. Although not yet fully tested, Scott's more advanced three-dimensional software program promised to be much more accurate than other methods in diagnosing lesions. While a variety of other scientists around the world had developed their own MRI imaging software, Scott's new three-dimensional program was very different and far superior to any other existing software for MRI image processing. At James' recommendation, the three gentlemen formed Bio-Imaging, Incorporated with the goal of developing and producing a commercial software package that hospitals and doctors could use. Shortly thereafter, they were approached by the Medtech Corporation, a large medical imaging and software company. Medtech offered them $150,000 to buy the software package in its then-current form, together with the rights to develop and market the software world-wide. The other two partners authorized James (who was the "businessman" of the partnership) to decide whether or not to accept the Medtech offer. If they rejected the offer, their plan was to continue their own development of the software package in the next six months. This would entail an investment of approximately $200,000, which James felt could be financed through the partners' personal savings. If Bio-Imaging were successful in their effort to make the three-dimensional prototype program fully operational, they would face two alternative development strategies. One alternative would be to apply after six months' time for a $300,000 Small Business Innovative Research (SBIR) grant from the National Institutes of Health (NIH). The SBIR money would then be used to further develop and market their product. The other alternative would be to seek further capital for the project from a venture capital firm. In fact, Michael had had several discussions with the venture capital firm Nugrowth Development. Nugrowth Development had proposed that if Bio-Imaging were successful in producing a three-dimensional prototype program, Nugrowth would then offer $1,000,000 to Bio-Imaging to finance and market the software package in exchange for 80% of future profits after the three-dimensional prototype program became fully operational. (Because NIH regulations do not allow a company to receive an NIH grant and also receive money from a venture capital firm, Bio-Imaging would not be able to receive funding from both sources.) James knew that there was substantial uncertainty concerning the likelihood of receiving the SBIR grant. He also knew that there was substantial uncertainty about how successful Bio- Imaging might be in marketing their product. He felt, however, that if they were to accept the Nugrowth Development offer, the profitability of the product would probably then be higher than if they were to market the product themselves. If Bio-Imaging was not successful in making the three-dimensional prototype program fully operational, James felt that they could still apply for an SBIR grant with the two-dimensional software program. He realized that in this case, they would be less likely to be awarded the SBIR grant. Furthermore, clinical tests would be needed to fine-tune the two-dimensional program prior to applying for the grant. James estimated that the cost of these additional tests would be around $100,000. The decision problem faced by Bio-Imaging was whether to accept the offer from Medtech or to continue the research and development of the three-dimensional software package. If they were successful in producing a three-dimensional prototype, they would have to decide either to apply for the SBIR grant or to accept the offer from Nugrowth. If they were not successful in producing a three-dimensional prototype, they would have to decide either to further invest in the two-dimensional product and apply for an SBIR grant, or to abandon the project altogether. In the midst of all of this, James also wondered whether the cost of the Nugrowth offer (80% of future profits) might be too high relative to the benefits ($1,000,000 in much-needed capital). Clearly James needed to think hard about the decisions Bio-Imaging was facing. Data Estimates of Revenues and Probabilities Given the intense competition in the market for medical imaging technology, James knew that there was substantial uncertainty surrounding the potential revenues of Bio-Imaging over the next three years. James tried to estimate these revenues under a variety of possible scenarios. Table 1.2 shows James' data estimates of revenues under three scenarios ("high profit," "medium profit," and "low profit") in the event that the three-dimensional prototype were to become operational and if they were to receive the SBIR grant. Under the "high profit" scenario the program would presumably be very successful in the marketplace, yielding total revenues of $3,000,000. In the "medium profit" scenario, James estimated the revenues to be $500,000, while in the "low profit" scenario, he estimated that there would be no revenues. James assigned his estimated probabilities of these three scenarios to be 20%, 40%, and 40% for the "high profit," "medium profit," and "low profit" scenarios, respectively. Table 1.3 shows James' data estimates of revenues of Bio-Imaging in the event that the three-dimensional prototype were to become operational and if they were to accept the financing offer from Nugrowth Development. Given the higher resources that would be available to them ($1,000,000 of capital), James estimated that under the "high profit" scenario the program would yield total revenues of $10,000,000. In the "medium profit” scenario, James estimated the revenues to be $3,000,000; while in the "low profit" scenario, he estimated that there would be no revenues. As before, James assigned his estimated probabilities of the three scenarios to be 20%, 40%, and 40% for the "high profit," "medium profit," and "low profit" scenarios, respectively. Table 1.4 shows James' data estimates of revenues of Bio-Imaging in the event that the three-dimensional prototype were not successful and if they were to receive the SBIR grant for the two-dimensional software program. In this case James considered only two scenarios: "high profit" and "low profit." Note that the revenue estimates are quite low. Under the "high profit" scenario the program would yield total revenues of $1,500,000. In the "low profit" scenario, James estimated that there would be no revenues. James assigned his estimated probabilities of the scenarios to be 25% and 75% for the "high profit" and the "low profit" scenarios, respectively. James also gave serious thought and analysis to various other uncertainties facing Bio- Imaging. After consulting with Scott, he assigned a 60 % likelihood that they would be successful in producing an operational version of the three-dimensional software program. Moreover, after consulting with Michael Ford, James also estimated that the likelihood of winning the SBIR grant after successful completion of the three-dimensional software program to be 70%. However, they estimated that the likelihood of winning the SBIR grant with only the two-dimensional software program would be only 20%. TABLE 1.2 Estimated revenues of Bio-Imaging, if the three-dimensional prototype were operational and if Bio-Imaging were awarded the SBIR grant. TABLE 1.3 Estimated revenues of Bio-Imaging, if the three-dimensional prototype were operational, under financing from Nugrowth Development. TABLE 1.4 Estimated profit of Bio-Imaging, if the three-dimensional prototype were unsuccessful and if Bio-Imaging were awarded the SBIR grant. Scenario High Profit Medium Profit Low Profit Scenario High Profit Medium Profit Low Profit Scenario High Profit Low Profit Probability 20% 40% 40% Probability 20% 40% 40% Probability 25% 75% Find the optimal decision strategy and compute for the EMV. Total Revenues $3,000,000 $500,000 50 Total Revenues $10,000,000 $3,000,000 50 Total Revenues $1,500,000 $0 MAKING DECISIONS AT BIO-IMAGING, INC. In 2004, the company Bio-Imaging, Incorporated was formed by James Bates, Scott Tillman, and Michael Ford, in order to develop, produce, and market a new and potentially extremely beneficial tool in medical diagnosis. Scott Tillman and James Bates were each recent graduates from Massachusetts Institute of Technology (MIT), and Michael Ford was a professor of neurology at Massachusetts General Hospital (MGH). As part of his graduate studies at MIT, Scott had developed a new technique and a software package to process MRI (magnetic resonance imaging) scans of brains of patients using a personal computer. The software, using state of the art computer graphics, would construct a three-dimensional picture of a patient's brain and could be used to find the exact location of a brain lesion or a brain tumor, estimate its volume and shape, and even locate the centers in the brain that would be affected by the tumor. Scott's work was an extension of earlier two-dimensional image processing work developed by James, which had been used extensively in Michael Ford's medical group at MGH for analyzing the effects of lesions on patients' speech difficulties. Over the last few years, this software program had been used to make relatively accurate measurements and diagnoses of brain lesions and tumors. Although not yet fully tested, Scott's more advanced three-dimensional software program promised to be much more accurate than other methods in diagnosing lesions. While a variety of other scientists around the world had developed their own MRI imaging software, Scott's new three-dimensional program was very different and far superior to any other existing software for MRI image processing. At James' recommendation, the three gentlemen formed Bio-Imaging, Incorporated with the goal of developing and producing a commercial software package that hospitals and doctors could use. Shortly thereafter, they were approached by the Medtech Corporation, a large medical imaging and software company. Medtech offered them $150,000 to buy the software package in its then-current form, together with the rights to develop and market the software world-wide. The other two partners authorized James (who was the "businessman" of the partnership) to decide whether or not to accept the Medtech offer. If they rejected the offer, their plan was to continue their own development of the software package in the next six months. This would entail an investment of approximately $200,000, which James felt could be financed through the partners' personal savings. If Bio-Imaging were successful in their effort to make the three-dimensional prototype program fully operational, they would face two alternative development strategies. One alternative would be to apply after six months' time for a $300,000 Small Business Innovative Research (SBIR) grant from the National Institutes of Health (NIH). The SBIR money would then be used to further develop and market their product. The other alternative would be to seek further capital for the project from a venture capital firm. In fact, Michael had had several discussions with the venture capital firm Nugrowth Development. Nugrowth Development had proposed that if Bio-Imaging were successful in producing a three-dimensional prototype program, Nugrowth would then offer $1,000,000 to Bio-Imaging to finance and market the software package in exchange for 80% of future profits after the three-dimensional prototype program became fully operational. (Because NIH regulations do not allow a company to receive an NIH grant and also receive money from a venture capital firm, Bio-Imaging would not be able to receive funding from both sources.) James knew that there was substantial uncertainty concerning the likelihood of receiving the SBIR grant. He also knew that there was substantial uncertainty about how successful Bio- Imaging might be in marketing their product. He felt, however, that if they were to accept the Nugrowth Development offer, the profitability of the product would probably then be higher than if they were to market the product themselves. If Bio-Imaging was not successful in making the three-dimensional prototype program fully operational, James felt that they could still apply for an SBIR grant with the two-dimensional software program. He realized that in this case, they would be less likely to be awarded the SBIR grant. Furthermore, clinical tests would be needed to fine-tune the two-dimensional program prior to applying for the grant. James estimated that the cost of these additional tests would be around $100,000. The decision problem faced by Bio-Imaging was whether to accept the offer from Medtech or to continue the research and development of the three-dimensional software package. If they were successful in producing a three-dimensional prototype, they would have to decide either to apply for the SBIR grant or to accept the offer from Nugrowth. If they were not successful in producing a three-dimensional prototype, they would have to decide either to further invest in the two-dimensional product and apply for an SBIR grant, or to abandon the project altogether. In the midst of all of this, James also wondered whether the cost of the Nugrowth offer (80% of future profits) might be too high relative to the benefits ($1,000,000 in much-needed capital). Clearly James needed to think hard about the decisions Bio-Imaging was facing. Data Estimates of Revenues and Probabilities Given the intense competition in the market for medical imaging technology, James knew that there was substantial uncertainty surrounding the potential revenues of Bio-Imaging over the next three years. James tried to estimate these revenues under a variety of possible scenarios. Table 1.2 shows James' data estimates of revenues under three scenarios ("high profit," "medium profit," and "low profit") in the event that the three-dimensional prototype were to become operational and if they were to receive the SBIR grant. Under the "high profit" scenario the program would presumably be very successful in the marketplace, yielding total revenues of $3,000,000. In the "medium profit" scenario, James estimated the revenues to be $500,000, while in the "low profit" scenario, he estimated that there would be no revenues. James assigned his estimated probabilities of these three scenarios to be 20%, 40%, and 40% for the "high profit," "medium profit," and "low profit" scenarios, respectively. Table 1.3 shows James' data estimates of revenues of Bio-Imaging in the event that the three-dimensional prototype were to become operational and if they were to accept the financing offer from Nugrowth Development. Given the higher resources that would be available to them ($1,000,000 of capital), James estimated that under the "high profit" scenario the program would yield total revenues of $10,000,000. In the "medium profit” scenario, James estimated the revenues to be $3,000,000; while in the "low profit" scenario, he estimated that there would be no revenues. As before, James assigned his estimated probabilities of the three scenarios to be 20%, 40%, and 40% for the "high profit," "medium profit," and "low profit" scenarios, respectively. Table 1.4 shows James' data estimates of revenues of Bio-Imaging in the event that the three-dimensional prototype were not successful and if they were to receive the SBIR grant for the two-dimensional software program. In this case James considered only two scenarios: "high profit" and "low profit." Note that the revenue estimates are quite low. Under the "high profit" scenario the program would yield total revenues of $1,500,000. In the "low profit" scenario, James estimated that there would be no revenues. James assigned his estimated probabilities of the scenarios to be 25% and 75% for the "high profit" and the "low profit" scenarios, respectively. James also gave serious thought and analysis to various other uncertainties facing Bio- Imaging. After consulting with Scott, he assigned a 60 % likelihood that they would be successful in producing an operational version of the three-dimensional software program. Moreover, after consulting with Michael Ford, James also estimated that the likelihood of winning the SBIR grant after successful completion of the three-dimensional software program to be 70%. However, they estimated that the likelihood of winning the SBIR grant with only the two-dimensional software program would be only 20%. TABLE 1.2 Estimated revenues of Bio-Imaging, if the three-dimensional prototype were operational and if Bio-Imaging were awarded the SBIR grant. TABLE 1.3 Estimated revenues of Bio-Imaging, if the three-dimensional prototype were operational, under financing from Nugrowth Development. TABLE 1.4 Estimated profit of Bio-Imaging, if the three-dimensional prototype were unsuccessful and if Bio-Imaging were awarded the SBIR grant. Scenario High Profit Medium Profit Low Profit Scenario High Profit Medium Profit Low Profit Scenario High Profit Low Profit Probability 20% 40% 40% Probability 20% 40% 40% Probability 25% 75% Find the optimal decision strategy and compute for the EMV. Total Revenues $3,000,000 $500,000 50 Total Revenues $10,000,000 $3,000,000 50 Total Revenues $1,500,000 $0
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The optimal decision strategy can be determined by calculating the expected monetary value EMV for each potential decision and then choosing the decis... View the full answer
Related Book For
Intermediate Accounting
ISBN: 978-0470423684
13th Edition
Authors: Donald E. Kieso, Jerry J. Weygandt, And Terry D. Warfield
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