GROUP PROJECT

IMBA-SEPT. 2018
SECTION 6 – GROUP A/1

A) Based on Skyvigil’s previous product development data, we built a significant

regression model. For the regression model, we used the difference between the actual amount
spent and the initial estimated amount as the dependent variable, and for the independent
variables we took into consideration whether it was a first generation or not. According to the
R square of 0.94, we can confirm that we built a solid model with a difference cost of EUR
3,725,714 for the MSPSR while taking into consideration that it is a second generation with 11
sub-system and four new technologies:

Difference = Intercept coefficient (Regression3) + (New key tech X 4 new technology)

EUR 3,725,714 = 137,142.8 + 897,142.8 x 4 (See Excel Tab RegA B6).

As we have seen in the past, there are always discrepancies between the initial estimation
price and the actual amount spent. Instead of pinning an estimated number, it would be more
accurate to define a range of development costs.

For a maximum price giving an 80% probability of acceptance, the company would face a
developing cost for the MSPSR of EUR 12,324,210.

Actual cost = Standard error X NORMSINV (0.8) + Predicted amount + Difference.

EUR 12,324,210 = 948,758.6 X 0.84 + 7,800,000 + 3,725,714

MDM Group Assignment 1

Group S6-1 (A)
B) Based on Skyvigil’s historical data of Transfer of Technology (ToT) price, product
stage, and accessible market, we built up a poor regression model with only one independent
variable. We built our regression model with the ToT as the dependent variable and accessible
market as the independent variable. This is mainly explained by an insignificant t-stat for the
product stage in the regression1.

For a market size of EUR 475,000,000, we computed a center value of EUR 28,242,929.

Center Value = Intercept coefficient (Regression2) + (Accessible market X Market

size)
EUR 28,242,929 = 1,623,045.6 + 0.056 x 475,000,000 (See Excel Tab RegB) E26)

For a maximum price giving a 70% probability of acceptance, the company would face
a ToT price for the MSPSR of EUR 30,727,010.

ToT price = Standard error X NORMSINV (0.7) + Center value.

EUR 30,727,010 = 4,736,992 X 0.524 + 28,242,929

MDM Group Assignment 1

Group S6-1 (A)
C) With a Bid score of 82 calculated as follow:

𝑇𝑎𝑟𝑔𝑒𝑡 𝑝𝑟𝑖𝑐𝑒 𝑠𝑒𝑡 𝑏𝑦 𝐺𝑀𝑜𝑡 𝑇𝑒𝑐ℎ𝑛𝑖𝑐𝑎𝑙 𝑠𝑐𝑜𝑟𝑒 𝑜𝑢𝑡 𝑜𝑓 100

𝐵𝑖𝑑 𝑠𝑐𝑜𝑟𝑒 = 40 𝑥 + 60 𝑥
𝐵𝑖𝑑𝑑𝑖𝑛𝑔 𝑝𝑟𝑖𝑐𝑒 100

1,200,000 70
82 = 40 𝑥 + 60 𝑥
1,200,000 100

And considering the following information:

Bid Score 82
Target Price 1200000
Bidding Price 1200000
Technical Score 70
Mean winning bid score 84,2
Std Dev winning bid score 2,7
Probability of winning 21%
Probability of losing 79%
Z score -0,81

With that data con can calculate the Z score by determinate how many standard deviations
we’re are from the mean:

𝐵𝑖𝑑 𝑆𝑐𝑜𝑟𝑒 − 𝜇
𝑍= = −0,81
𝜎

We can assert that we have 21% chances of winning the tender and, thus, a 79% chance
of losing the tender.

MDM Group Assignment 1

Group S6-1 (A)
D) By taking the following information into consideration:

Short Term Win Tender Long Term ROW Win Tender Lose Tender
Short term CM 5% Long Term CM 25% 25%
Target unit price 1.200.000 Long term prospects 400.000.000 400.000.000
Units 30 % EU market 40% 10%

And the considering the payoff as the following equation:

𝑃𝑎𝑦𝑜𝑓𝑓 = 𝑆ℎ𝑜𝑟𝑡. 𝑡𝑒𝑟𝑚 𝐶𝑀 + 𝐿𝑜𝑛𝑔. 𝑡𝑒𝑟𝑚 𝐶𝑀

We can compute the payoff for each scenarios:

 In the short run, the payoff if we win the tender will be EUR 1,800,000 (5% x EUR
1,200,000 x 30 units);
 In the long term, the payoff for Europe (including Germany) of winning the tender
will be EUR 40,000,000 (25% x EUR 400,000,000 x 40%);
 In the long term, the payoff for Europe (including Germany) of losing the tender
will be EUR 10,000,000 (25% x 400,000,000 x 10%).
Moreover, with a cost for the in-house development of EUR 11,525,714 (calculated in
question a), the payoff of winning the tender will be EUR 30,274,286, and the payoff of losing
the tender will be EUR -1,525,714.

Thus, the Expected Monetary Value (EMV) will be EUR 5,075,621 (EUR 30,274,286
x 21% + EUR –1,525,714 x 79%).

Graphically this would look:

MDM Group Assignment 1

Group S6-1 (A)
E) After calculating how much the expected monetary value of developing the solution
within Skyvigil would be, we have to analyze the other possible solutions. Hence, we can
determine what would be our best strategy maximizing expected profits at long term.

In this case we will evaluate the option of doing a ToT with Raylight. It is worth
mentioning that the regression used to determine the possible cost of the ToT was made with
just a few data points. This means that, at the moment of negotiation, we could encounter that
Raylight expects much more or much less money than our estimation. That being said, the
strategy negotiation should be hearing them first just in case their price is lower. Now, even
though the probability of acceptance is 70%, we need to calculate the expected monetary values
in case we are successful in the negotiations.

German tender information:

 The price (EUR 1,700,000 euro) might be a bit high for the tender but it is expected
that this could be compensated with a higher technical score (95/100).
 There is a 15% estimated contribution margin.
 German tender are 30 Units.
 Cost (estimated in question b) would be EUR 30,727,010 plus an added 10% for
consulting and assistance would be EUR 33,799,711.
Long-term information (In Europe):
 Price could be adjusted to EUR 1,600,000 million.
 There is a 25% estimated contribution margin.
 Accessible market of 475 million.
 A favorable result in the German tender would lead to a better perception of the product,
which can give an estimate of a 50% of market share in Europe. On the other hand,
losing the tender will not have the better perception advantage, giving only a 15%
estimate of the market share in the European Market.
Finally, calculating the revenues and profits if we win the tender, we could get an
expected profit of EUR 33,225,289. On the other hand, if we were to lose the tender, the
company will incur in a loss of EUR -15.987.211. This tells us that winning or losing the
tender is a very big risk for the company.

Finally given a neutral risk aversion and the probabilities calculated with the bid score
(win 65%, lose 35%), we can calculate that the expected monetary value for the ToT option
with Raylight would be EUR 15,966,665.

MDM Group Assignment 1

Group S6-1 (A)
F) Now we analyze a license from Raylight. This option has to be analyzed in more detail
because, with the term of the license, we won’t have a product that we developed on our own
to sell outside of Germany, which, with the given cost, could deeply affect our profits. This
becomes even more important when we consider that we won’t be able to capture the
advertising related to winning the German tender (if we win, it will be with Raylight products),
and we would have to go to the European market with a very competitive price (EUR
1,000,000)

German tender information:

 The same price as previously used (EUR 1,600,000) might be a bit high for the tender,
but is expected that this could be compensated with a higher technical score (95/100).
 There is a 16% estimated contribution margin.
 German tender are 30 Units.
 Cost down payment (EUR 500,000) plus what is given in royalties.

It is important to note that, if we lose the tender, we will lose the EUR 500,000.

German Market:
 Price, same as in the tender EUR 1,600,000.
 There is a 16% estimated contribution margin.
 Accessible market of 60 million.
 A favorable result in the German tender would lead to getting the whole German market
(GMoT usually does not go with change). At the same time if we lose, we will lose the
whole German market.
Long term information (outside Germany):
 Price will need to be adjusted to EUR 1,000,000 in order to be competitive.
 There is a 17% estimated contribution margin.
 Accessible market of 325 million.
 A favorable result in the German market could led us to an in-house development to
reach 10% of the European market (excluding Germany).
 Given the scenarios, if we won’t win the German tender we won’t pursue the rest of the
European market.
Finally, to negotiate with Raylight, we can take two different approaches that we will
also evaluate. First, will be given 6% of royalties, then if we get a negative response with could
offer an 11%.

6% Royalties scenario:
Considering royalties and down payment, winning the tender will leave EUR 6,719,200
in profit, while the rest of the German market will leave a EUR 9,024,000 profit. In the rest of
Europe (no royalties applied), after deducting the costs we have a loss of EUR 6,799,210. The

MDM Group Assignment 1

Group S6-1 (A)
last point tells us that whether or not we win the German tender, we should not consider
developing an in-house solution for the rest of Europe. Then, the expected profit considering
the rest of Europe will be EUR 9,742,486 and not considering it will be EUR 15,743,200.
Finally, given a neutral risk aversion and the probabilities calculated with the bid score (win
85%, lose 15%), we can calculate that the expected monetary value for the ToT option with
Raylight would be EUR 13,309,005.

7% Royalties scenario:
Winning the tender will leave EUR 6,335,200 in profit (after royalties and down
payment), the rest of the German Market EUR 8,544,000, and finally the loss in the rest of
Europe will be the same as with 6% royalties. Then, expected profit considering the rest of
Europe will be EUR 8,079,990 and not considering it will be EUR 14,879,200. Finally, given
a neutral risk aversion and the probabilities calculated with the bid score (win 85%, lose 15%),
we can calculate that the expected monetary value for the ToT option with Raylight would be
EUR 12,574,484.

MDM Group Assignment 1

Group S6-1 (A)
G) Now we analyze the trading option. The risk with this option is that the mark-up leaves
a high price (EUR 1,900,000), which will diminish the bid score, negatively affecting the
probability of winning the tender.

German tender information:

 The price (EUR 1,900,000) might be a bit high for the tender but is expected that this
could be compensated with a higher technical score (95/100).
 There is a 9% estimated contribution margin.
 German tender are 30 Units.
 Cost per unit is EUR 1,550,000 or EUR 1,400,000, depending on the negotiations.

German Market
 Price will be need to be adjusted to EUR 1,000,000 to be competitive.
 There is a 9% estimated contribution margin.
 Accessible market of 60 million.
 Expected market share will be 25%.
Long term information (outside Germany):
 Price will need to be adjusted to EUR 1,000,000 to be competitive.
 There is a 17% estimated contribution margin.
 Accessible market of 325 million.
 Expected market share will be 25%.
Finally, it is worth mentioning that, if we lose the tender, we won’t be participating in the
MSPSR business at all.

Cost of EUR 1,550,000 scenario:

The expected profit of winning the tender with the trading option will be EUR 945,000.
Now, after developing the in-house solution (Cost: EUR 11,525,714) we can expect a gross
profit of EUR 2,550,000 in Germany, and EUR 5,525,000 in the rest of Europe. As is clear in
the numbers, the cost of the in-house solution compared to the expected gross profits is going
to deliver a loss, which would be EUR 3,450,000 which made us discard the option of an in-
house development.

MDM Group Assignment 1

Group S6-1 (A)
Cost of EUR 1,400,000 scenario
In the case of losing the tender, generating the in-house solution will be the same as
before, but in this case the profit expected by winning the tender will be EUR 1,350,000.
Finally given a neutral risk aversion and the probabilities calculated with the bid score (win
85%, lose 15%), we can calculate that the expected monetary value for the ToT option with
Raylight would be EUR 1,147,690.

MDM Group Assignment 1

Group S6-1 (A)
H) Now that we analyzed all of the options related to work with Raylight, we have to
analyze working with Apollo. In the case of Apollo, the only available option is to do a ToT.
Here, we can consider that the costs for the ToT will be the same as with Raylight (EUR
30,727,010), but as they are more complicated to work with in a process like this, we can
estimate an extra 20% in the costs related to consulting and assistance. Other noticeable
information is that, in this case, the technical score would be 87/100, which combined with the
high biding price (EUR 1,800,000) gives a scenario where it is not very likely to win the tender.

German tender information:

 The price (EUR 1,800,000) is high for the tender especially considering a low technical
score of (87/100).
 There is a 15% estimated contribution margin.
 German tender are 30 Units.
Long term information (In Europe):
 Price could be adjusted to EUR 1,650,000.
 There is a 25% estimated contribution margin.
 Accessible market of 475 million.
 A favorable result in the German tender would lead to a better perception of the product,
which can give an estimate of a 40% of market share in Europe. On the other hand,
losing the tender will not have the better perception advantage, giving only a 12.5%
estimate of the market share in the European Market.
Calculating the revenues and profits for the situation in which we win the tender would
give an expected profit of EUR 18,727,588. On the other hand, if we were to lose the tender,
the company will incur in a loss of EUR 22,028,662. This tells us that winning or losing the
tender is a very big risk for the company.

Finally, given a neutral risk aversion and the probabilities calculated with the bid
score (win 2%, lose 98%), we can calculate that the expected monetary value for the ToT
option with Apollo would be a loss of EUR -21,045,762.

MDM Group Assignment 1

Group S6-1 (A)
I) With all of the information that we have analyzed, we can build the following decision
tree:

As we can see in the figure, after considering every expected payoff for the different
options, the Raylight ToT has the biggest expected monetary value with a neutral risk aversion,
EUR 15,966,665. Overall, we can see that working with Raylight will be the most lucrative
option when it comes to ToT and Licences.

That being said, our priority for negotiations and as a possible supplier needs to be
Raylight. With Raylight, our approach has to be first ask them directly how much they want
for the ToT, because our estimation for the cost was made with little data and has a big standard
error (EUR 4,736992). That means that, with a 95% probability, the real value is going to be

MDM Group Assignment 1

Group S6-1 (A)
between EUR 21,253,026 and EUR 40,200,994. Hence, this tells us that our estimation could
be approximately EUR 10,000,000 higher or lower, then the best strategy will be hear them
first hoping for a lower value.

All of that being said, the maximum amount that we could pay for the ToT would be
EUR 33,000,000, this gives an expected monetary value of EUR 13,466,376, which is very
close to the expected value for a license deal with 6% royalties. Hence, from EUR 33,000,000
and up, we should follow the license option with Raylight.

If we pursue a license with them, the negotiation depends on the royalties expected
from Raylight. We should start with 6% and move up from there. In doing this, we have to
take into account that the options of doing a trading deal with them and the Apollo ToT do not
have attractive expected monetary values. After the ToT or licensing with Righlight, the only
attractive solution will be to develop an inhouse solution, which has an expected monetary
value of EUR 5,075,621, and it could add value to Skyvigil in terms of know-how for
developing a new product.

With that information and the value and advantages of an inhouse solution, the
recommendation will be to go as far as 15% for royalties, which would give an expected
monetary value of EUR 7,000,000, which is EUR 2,000,000 higher than with the in-house
solution.

Finally, regarding Apollo, given a negative expected monetary value of working with
them, the only thing that we can negotiate would be a decrease on the price of the ToT. In
order to make it attractive over the in-house solution, the cost will have to be EUR 7,000,000
(to have an expected monetary value of EUR 7,000,000), the expected is around EUR
30,000,000. Given that having such a low price is highly unlikely, we should put all our efforts
in negotiating with Raylight.

MDM Group Assignment 1

Group S6-1 (A)
J) (Individual Answers)

K) (Individual Answers)

L) After the new option given by Apollo, we can expect a bigger expected monetary value
because we will be adding the opportunity to participate in the Australian and Japanese
markets. To show this, we present an updated version of the three, but only with the highest
payoffs:

As we can see in the figure is clear that the new option given by Apollo gives the best
monetary result, even if we lose the German tender. At this point, the recommendation is
obvious, and it will be going with the Apollo deal.

M) (Individual Answers)

MDM Group Assignment 1

Group S6-1 (A)