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Elaine Shumate at GSM: Briefly examine the differences betw

Elaine Shumate has been working for GSM, a pharmaceutical research company, for more than seven years. It is her first job since finishing her graduate work in molecular biology and her performance evaluations have been exemplary. She has received increasing responsibility as opportunities have become available at GSM. Unfortunately, her knowledge and experience have not prepared her for the situation she currently faces. GSM has invested heavily in a molecular identification process (MIP) that the company's top management believes holds tremendous promise for the future. If all goes well, the company plans to patent the process and license the process to large pharmaceutical companies for their use in medication production. Elaine is the lead manager on MIP and she is worried that the latest research results do not look as promising as earlier results. The vice president of research, Blake Walton, has asked Elaine to meet with him to discuss the results. After a brief discussion in the hallway, Blake suggests that Elaine take another look at the latest results. He doesn't believe that her interpretation of the data is correct.

In preparing for their meeting, she looked over the company's earlier cost estimates and operating income projections for the project. Records indicate that the estimated research and development costs were $140 million and annual operating income was expected to be approximately $25 million. Given the latest results, MIP may have fewer applications in the pharmaceutical industry than originally believed.

Elaine spoke with Richard Lawrence, vice president of sales, to get an updated estimate of the potential market value for MIP. Richard suggested that MIP would likely generate operating income of just $17.5 million per year if the recent results hold up after further testing. Elaine knows that Blake is not going to be happy with this news.

Blake is scheduled to meet with the company's board of directors next week to discuss the need for additional investment capital from venture capitalists in the next year and the company's plans for a public stock offering in the next several years. Elaine stands to benefit substantially from stock options if the company goes public. GSM's future may ride on the outcome of that meeting.

Required

A. What is the ROI for MIP based on original estimates? What is the ROI if Richard Lawrence's new revenue projects are used?

B. Elaine feels pressure to deliver "good news" to Blake. What advice would you give to her? Given the possible personal financial rewards that Elaine may enjoy if GSM goes public, would your advice change?

C. What responsibilities does Elaine have to other GSM employees, the board of directors, and the venture capitalists?

This case study will assess your understanding of the return on investment measure. In 2-3 double-spaced pages, respond substantively to all three parts of the case. Be sure to show your work for the required calculations in part A. Furthermore, address the following in your conclusion:

Briefly examine the differences between ROI, Residual Income, and EVA. Is ROI the best technique to apply in this particular scenario? Why or why not?

Solution Preview

A. What is the ROI for MIP based on original estimates? What is the ROI if Richard Lawrence's new revenue projects are used?

ROI original amounts: $25 mil / $140 mil = 17.86%
ROI revised: $17.5 mil / $140 mil = 12.5%

B. Elaine feels pressure to deliver "good news" to Blake. What advice would you give to her? Given the possible personal financial rewards that Elaine may enjoy if GSM goes public, would your advice change?

Giving in to the pressure is a short term fix and will be unsuccessful on many levels. First, it is an illusion to sugar coat the reality. When the actual results come out, the stakeholders will know that Elaine's word is not reliable and that you have to discount what she says. That diminishes her reputation. Second, the news is just a change in the level of profits, but is stlll respectable. Acting as if all projects have to have home run profits is unrealistic and sets up the stakeholders to have unrealistic expectations and further pressure down the line for other projects. Third, Elaine sets a tone for the culture that is dangerous. If shading the truth for personal gain is "ok," employees that all begin to catch the disease will spell big trouble for the firm. Finally, Elaine must value her ...

Solution Summary

Your tutorial is 688 words (just over two pages double spaced). The discussion contrasts each measure and addresses the ethical issues for Elaine giving four reasons for not delivering fake "good news."

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