main msdi milad jangalvaee
TRANSCRIPT
Case Study:
MSDI-Alcala de Henares, Spain
Milad Jangalvaee
MSDI
Situation
MSDI
A Merck financial analyst must determine whether a
Discounted Cash Flow Analysis for new
equipment
at an operating subsidiary MSDI – Alcala de Henares,
Spain should be made through US Dollars (USD) or Spanish Pesetas (Pst)
MSDI
Background
MSDI
Merck is a large multinational producer of animal and human health care pharmaceuticals
Merck Sharp and Dohme International (MSDI) is the division in which Merck operates internationally
Alcala de Henares, Spain is an operating facility opened in 1969
The facility produces glass ampules filled with liquid pharmaceuticals
MSDIThe Manufacturing Process
Ampules (small glass containers) are purchased from local suppliers
Ampules are washed, filled, inspected and sealed
Washing and sterilization are subjected to stringent quality control guidelines
Ampules are filled with liquid pharmaceutical
The filled ampules are inspected at a station
Workers remove any contaminated ampules
Approved ampules are sealed
Ampules are packaged and shipped
MSDIProblems with the
Inspection Process:
Additional workers were required in 1987 to meet the current production load
Additional workers required 2-3 months of training to become proficient with inspection equipment
Solution to the Problem:
MSDI proposed replacing workers with high speed inspection equipment that would meet criteria and rejection thresholds
Solution would reduce workers required from 10 to at least 4
Rejection rates would drop from 11% to 3%
MSDI
Financial Benefits of proposed equipment
MSDICost Savings Estimates
MSDI
Question 1:
What is the Net Present Value in
Pesetas (Pst) and US Dollars (USD)?
MSDIFinancial Considerations:
Equipment would have a 10 year life
Straight line depreciation would be used for tax and financial reporting
Book value and tax basis is Pts 1,605,000 with 3 years of straight line depreciation left
Market value was est. Pts 950,000
Local tax rate was determined at 35%
US Inflation Rate of 4%
Spanish Pts Inflation Rate of 8%
Exchange rate of 127Pst = $1 USD
Merck's Cost of Capital - 13%
MSDI
Peseta Discount Rate Formula
US Cost of Capital + (Spanish Inflation Rate – US Inflation Rate)
13% + (8% - 4%)
MSDIPts= Paseta 1 9 8 7 1 9 8 8 1 9 8 9 1 9 9 0 1 9 9 1 1 9 9 2 1 9 9 3 1 9 9 4 1 9 9 5 1 9 9 6 1 9 9 7
Scen ario # 1U S $ I n flation 4.00%S p an ish Peseta (Pts) I n flation 8.00%
Forecasted Pts/ U S $ (I n it ial = 1 2 7 ) 1 2 7 1 3 1 .9 1 3 7 .0 1 4 2 .2 1 4 7 .7 1 5 3 .4 1 5 9 .3 1 6 5 .4 1 7 1 .8 1 7 8 .4 1 8 5 .2
Per Am p ou le Total Cost - - Old Mach in e 1 9 .2 8 2 0 .8 2 2 2 .4 9 2 4 .2 9 2 6 .2 3 2 8 .3 3 3 0 .6 0 3 3 .0 4 3 5 .6 9 3 8 .5 4Per Am p ou le Total Cost - - New Mach in e 1 5 .1 8 1 6 .3 9 1 7 .7 1 1 9 .1 2 2 0 .6 5 2 2 .3 0 2 4 .0 9 2 6 .0 2 2 8 .1 0 3 0 .3 4Op eratin g Costs - - Old Mach in e (Pts) 8 8 4 9 6 .0 8 8 6 6 2 .6 9 3 6 8 6 .7 9 7 6 3 5 .6 1 0 1 0 9 2 .2 1 0 4 8 7 3 .6 1 0 9 1 0 2 .5 1 1 3 7 6 6 .5 1 1 9 0 1 3 .7 1 2 4 8 7 3 .4Op eratin g Costs - - New Mach in e (Pts) 6 9 6 7 6 .0 6 9 8 0 7 .2 7 3 7 6 2 .8 7 6 8 7 1 .9 7 9 5 9 3 .4 8 2 5 7 0 .7 8 5 9 0 0 .2 8 9 5 7 2 .3 9 3 7 0 3 .6 9 8 3 1 7 .2Cost S avin g s (Pts) 1 8 8 2 0 .0 1 8 8 5 5 .4 1 9 9 2 3 .9 2 0 7 6 3 .7 2 1 4 9 8 .8 2 2 3 0 2 .9 2 3 2 0 2 .3 2 4 1 9 4 .1 2 5 3 1 0 .0 2 6 5 5 6 .2
Cost of New Mach in e -6 1 5 2 5 .0After Tax Cost S avin g s 0 .0 1 2 2 3 3 .0 1 2 2 5 6 .0 1 2 9 5 0 .5 1 3 4 9 6 .4 1 3 9 7 4 .2 1 4 4 9 6 .9 1 5 0 8 1 .5 1 5 7 2 6 .2 1 6 4 5 1 .5 1 7 2 6 1 .5After Tax S alvag e - Old Mach in e 1 1 7 9 .3Old Dep reciat ion Lost (After Tax) 0 .0 -1 8 7 .3 -1 8 7 .3 -1 8 7 .3 0 .0 0 .0 0 .0 0 .0 0 .0 0 .0 0 .0New Dep reciation (After Tax) 0 .0 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4 2 1 5 3 .4
Total Pts Cash F low -6 0 3 4 5 .8 1 4 1 9 9 .1 1 4 2 2 2 .2 1 4 9 1 6 .6 1 5 6 4 9 .8 1 6 1 2 7 .6 1 6 6 5 0 .3 1 7 2 3 4 .9 1 7 8 7 9 .6 1 8 6 0 4 .9 1 9 4 1 4 .9
Forecasted Pts/ U S $ (I n it ial = 1 2 7 ) 1 2 7 .0 1 3 1 .9 1 3 7 .0 1 4 2 .2 1 4 7 .7 1 5 3 .4 1 5 9 .3 1 6 5 .4 1 7 1 .8 1 7 8 .4 1 8 5 .2Total U S D Cash F low (u sin g forecastin g m eth od ) -4 7 5 .2 1 0 7 .7 1 0 3 .8 1 0 4 .9 1 0 6 .0 1 0 5 .2 1 0 4 .5 1 0 4 .2 1 0 4 .1 1 0 4 .3 1 0 4 .8
P ts NPV ( thousands) 11,191.04U S$ NPV ( thousands) ( P ts127/ U S$) 88.12$
U S$ NPV ( w ith forecasting/ U S$) $84.46
MSDI
Problems with forecasting
NPV and exchange rates
MSDI
Spanish Peseta/US Dollar exchange rates 1987-1997
0
20
40
60
80
100
120
140
160
180
200
Forecast v. Actual Peseta
1987 - 1997
Year
Pe
seta
(p
er
$1
US
D)
YearsYears
1987 127 110.8 -16.21988 131.9 113.73 -18.17 2.64%1989 137 112.24 -24.76 -1.31%1990 142.2 95.75 -46.45 -14.69%1991 147.7 99.7 -48 4.13%1992 153.4 112.95 -40.45 13.29%1993 159.3 140.42 -18.88 24.32%1994 165.4 132.31 -33.09 -5.78%1995 171.8 122.53 -49.27 -7.39%1996 178.4 130.69 -47.71 6.66%1997 185.2 150.46 -34.74 15.13%
8% InflationRate
Actual Pst Rate
(in December)
Difference(Actual – Forecast)
InflationRate
MSDI
Question 2:
How sensitive is the NPV of the new equipment to changes in the peseta/dollar exchange rate?
MSDI
Real Rate of Return Formula
(1 + Real Rate) = (1 + Nominal Rate) x (1 + Inflation Rate)
MSDI
0.0
0%
1.0
0%
2.0
0%
3.0
0%
4.0
0%
5.0
0%
6.0
0%
7.0
0%
8.0
0%
9.0
0%
10
.00
%11
.00
%12
.00
%13
.00
%14
.00
%15
.00
%16
.00
%17
.00
%18
.00
%19
.00
%20
.00
%21
.00
%22
.00
%23
.00
%24
.00
%25
.00
%
($20)
$0
$20
$40
$60
$80
$100
$120
$140
$160 USD NPV Sensitivity to PTS Inflation
Pts Inflation Rate
NP
V (
US
D)
MSDI
Pts I nflation Rate NPV ( U SD)0.00% $147.861.00% $138.692.00% $129.933.00% $121.554.00% $113.525.00% $105.826.00% $98.427.00% $91.318.00% $84.469.00% $77.87
10.00% $71.5011.00% $65.3512.00% $59.4113.00% $53.6614.00% $48.0915.00% $42.7016.00% $37.4617.00% $32.3818.00% $27.4419.00% $22.6420.00% $17.9721.00% $13.4222.00% $9.0023.00% $4.6824.00% $0.4725.00% ($3.63)
NPV Sensitiv ity to PTS I nflation* U SD I n flation held con stan t = 4 %
MSDI
Question 3:
What happens to the NPV if Spanish inflation is assumed to be less than 8% per year assuming that
expected dollar inflation remains at 4% per year?
MSDIPts= Paseta 1 9 8 7 1 9 8 8 1 9 8 9 1 9 9 0 1 9 9 1 1 9 9 2 1 9 9 3 1 9 9 4 1 9 9 5 1 9 9 6 1 9 9 7
Scen ario # 2U S $ I n flation 4.00%S pan ish Peseta (Pts) I nflation 4.00%
Forecasted Pts/ U S$ (I n it ial = 1 2 7 ) 1 27 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0
Per Am p ou le Total Cost - - Old Mach in e 1 9 .2 8 2 0 .0 5 2 0 .8 5 2 1 .6 9 2 2 .5 6 2 3 .4 6 2 4 .4 0 2 5 .3 7 2 6 .3 9 2 7 .4 4Per Am p ou le Total Cost - - New Mach in e 1 5 .1 8 1 5 .7 9 1 6 .4 2 1 7 .0 8 1 7 .7 6 1 8 .4 7 1 9 .2 1 1 9 .9 8 2 0 .7 7 2 1 .6 1Op eratin g Costs - - Old Mach ine (Pts) 8 84 96 .0 8 53 78 .8 8 68 75 .4 8 71 84 .0 8 69 27 .3 8 68 38 .9 8 69 94 .6 8 73 53 .7 8 79 98 .1 8 89 11 .1Op eratin g Costs - - New Mach in e (Pts) 6 96 76 .0 6 72 21 .7 6 84 00 .1 6 86 43 .1 6 84 40 .9 6 83 71 .3 6 84 93 .9 6 87 76 .6 6 92 84 .0 7 00 02 .8Cost Saving s (Pts) 1 88 20 .0 1 81 57 .1 1 84 75 .4 1 85 41 .0 1 84 86 .4 1 84 67 .6 1 85 00 .7 1 85 77 .1 1 87 14 .1 1 89 08 .3
Cost of New Mach in e -6 15 2 5 .0After Tax Cost Savin gs 0 .0 1 22 33 .0 1 18 02 .1 1 20 09 .0 1 20 51 .6 1 20 16 .2 1 20 03 .9 1 20 25 .5 1 20 75 .1 1 21 64 .2 1 22 90 .4After Tax S alvage - Old Mach ine 1 17 9 .3Old Dep reciation Lost (After Tax) 0 .0 -1 87 .3 -1 87 .3 -1 87 .3 0 .0 0 .0 0 .0 0 .0 0 .0 0 .0 0 .0New Dep reciation (After Tax) 0 .0 2 15 3 .4 2 15 3 .4 2 15 3 .4 2 15 3 .4 2 15 3 .4 2 15 3 .4 2 15 3 .4 2 15 3 .4 2 15 3 .4 2 15 3 .4
Total Pts Cash Flow -6 03 4 5 .8 1 41 99 .1 1 37 68 .2 1 39 75 .1 1 42 05 .0 1 41 69 .5 1 41 57 .3 1 41 78 .8 1 42 28 .5 1 43 17 .6 1 44 43 .8
Forecasted Pts/ U S$ (I n it ial = 1 2 7 ) 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0 1 27 .0Total U S D Cash F low (usin g forecastin g m eth od ) -4 75 .2 1 11 .8 1 08 .4 1 10 .0 1 11 .9 1 11 .6 1 11 .5 1 11 .6 1 12 .0 1 12 .7 1 13 .7
P ts NP V ( thousands) 14,416.65U S$ NP V ( thousands) ( P ts127/ U S$) 113.52$
U S$ NP V ( w ith forecasting/ U S$) $113.52
MSDI
Question 4:
Should Merck headquarters approve the MSDI
equipment purchase?
MSDI
YES
The current inflation figures of
8% (Pst) and 4% (USD)
as well as Merck's cost of capital of 13% provides the company
with a positive NPV using either
Pst or USD to evaluate the project.