Reference no: EM132907301

OMGylin is the manufacturer of the drug Bayella, which has been proven to be effective for treating Type 1 and 2 diabetes.  OMGylin is now waiting for the approval from FDA for using the drug for treating Type 3 diabetes. The probability that the FDA will approve the drug for the new indication is 50%. If the drug is approved for the new indication, OMGylin expects the demand to be normally distributed with a mean of 2500 doses and standard deviation of 500 doses. If the drug is not approved, then the demand will have a mean of 1500 and standard deviation of 500. The approval process is expected to take 2 years.

By the time the approval process is complete, they will also have to build capacity for the Bayella. From prior experience, OMGylin understands that it will take them about 2 years to install capacity. If planning for capacity is started immediately, the marginal cost of capacity would be $600.00. It is also possible for OMGylin to use the excess capacity at one of their contract manufacturers (CM) to produce Bayella. Given that the capacity at this facility is already up and running, CM would be able to start producing the new drug batches even without any advance notice. As a result, OMGylin would be able to contract with CM after approval process for Bayella is complete. However,  CM charges $750 for every unit of capacity that they dedicate for the production of Bayella.

Assume that the drug can sold at a price of $2000/dose irrespective of the outcome of the approval process.

1. Suppose OMGylin decides to build their own capacity immediately. What is the optimal capacity and what are the corresponding profits?
2. Suppose OMGylin decides to use CM to manufacture Bayella. What is the optimal capacity and what are the corresponding profits?
3. Compare the capacity levels for Q1 and Q2. Are they the same or different? Why?