A drug company has two options when it comes to drug development. Develop a new drug or improve an existing one. When developing a new drug the company can choose to go with rapid development, which costs less but has a larger chance of failing FDA inspection, or choose to go with thorough development, which is costlier but has a better chance of FDA approval. If the company chooses to improve an existing drug then the company can either choose to do minor improvements to the drug or major improvements to the drug. Major improvements have to be FDA approved while minor improvements don’t have to be approved by the FDA. The company needs to figure out the optimal decision process. Based on projected demands the payoffs are as follows; if a new drug is developed rapidly, then, approval by FDA will result in a profit of 75,000 while rejection by FDA will result in a loss of 25,000. If a new drug is developed thoroughly, then approval by FDA will result in profit of 105,000 while rejection by FDA will result in a loss of 120,000. If FDA approves major changes to an existing drug then it will result in profit of 50,000 for the company whereas if it rejects the major changes it will result in a loss of 8,000. An existing drug with minor changes will result in a profit of 35,000. Draw the decision tree for the above problem. What is the optimal decision for this company if the probability of approval of a new drug by the FDA is 75% for thoroughly developed drugs and 60% for rapidly developed drugs and the probability of FDA approval of major changes to an existing drug is 80%?
A drug company has two options when it comes to drug development. Develop a new drug or improve an existing one. When developing a new drug the company can choose to go with rapid development, which costs less but has a larger chance of failing FDA inspection, or choose to go with thorough development, which is costlier but has a better chance of FDA approval. If the company chooses to improve an existing drug then the company can either choose to do minor improvements to the drug or major improvements to the drug. Major improvements have to be FDA approved while minor improvements don’t have to be approved by the FDA. The company needs to figure out the optimal decision process.
Based on projected demands the payoffs are as follows; if a new drug is developed rapidly, then, approval by FDA will result in a profit of 75,000 while rejection by FDA will result in a loss of 25,000. If a new drug is developed thoroughly, then approval by FDA will result in profit of 105,000 while rejection by FDA will result in a loss of 120,000. If FDA approves major changes to an existing drug then it will result in profit of 50,000 for the company whereas if it rejects the major changes it will result in a loss of 8,000. An existing drug with minor changes will result in a profit of 35,000.
- Draw the decision tree for the above problem.
- What is the optimal decision for this company if the probability of approval of a new drug by the FDA is 75% for thoroughly developed drugs and 60% for rapidly developed drugs and the probability of FDA approval of major changes to an existing drug is 80%?
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