Essentials Of Investments
Essentials Of Investments
11th Edition
ISBN: 9781260013924
Author: Bodie, Zvi, Kane, Alex, MARCUS, Alan J.
Publisher: Mcgraw-hill Education,
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### Pharmaceutical Companies' Expected Payoffs

**Scenario:**

Big Cure and Little Cure are both pharmaceutical companies. Big Cure currently has a potential "blockbuster" drug awaiting approval from the Food and Drug Administration (FDA). If approved, this drug will generate $1 billion in net income for Big Cure.

Little Cure has ten separate, less significant drugs also awaiting FDA approval. Each of these drugs is projected to bring in $50 million in net income for Little Cure if approved. The probability of the FDA approving any given drug is 50%.

**Question:**
What is the expected payoff for Little Cure's ten drugs?

**Options:**
- A. $250 million
- B. $50 million
- C. $1 billion
- D. $0

### Analysis and Calculation:

To determine the expected payoff for Little Cure's ten drugs, you should consider the approval probability and potential income for each drug.

1. **Probability of Approval:** 50% (or 0.5)
2. **Net Income per Approved Drug:** $50 million

For each drug:
- Expected Income = Probability of Approval × Potential Income
- Expected Income = 0.5 × $50 million = $25 million

Since there are ten independent drugs:
- Total Expected Payoff = Number of Drugs × Expected Income per Drug
- Total Expected Payoff = 10 × $25 million = $250 million

### Conclusion:
The expected payoff for Little Cure’s ten drugs is **$250 million**.

---
**Correct Answer:**
- Option A: $250 million
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Transcribed Image Text:### Pharmaceutical Companies' Expected Payoffs **Scenario:** Big Cure and Little Cure are both pharmaceutical companies. Big Cure currently has a potential "blockbuster" drug awaiting approval from the Food and Drug Administration (FDA). If approved, this drug will generate $1 billion in net income for Big Cure. Little Cure has ten separate, less significant drugs also awaiting FDA approval. Each of these drugs is projected to bring in $50 million in net income for Little Cure if approved. The probability of the FDA approving any given drug is 50%. **Question:** What is the expected payoff for Little Cure's ten drugs? **Options:** - A. $250 million - B. $50 million - C. $1 billion - D. $0 ### Analysis and Calculation: To determine the expected payoff for Little Cure's ten drugs, you should consider the approval probability and potential income for each drug. 1. **Probability of Approval:** 50% (or 0.5) 2. **Net Income per Approved Drug:** $50 million For each drug: - Expected Income = Probability of Approval × Potential Income - Expected Income = 0.5 × $50 million = $25 million Since there are ten independent drugs: - Total Expected Payoff = Number of Drugs × Expected Income per Drug - Total Expected Payoff = 10 × $25 million = $250 million ### Conclusion: The expected payoff for Little Cure’s ten drugs is **$250 million**. --- **Correct Answer:** - Option A: $250 million
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