Pricing a Radical Innovation

Microeconomics for Firm’s

Competitiveness

Analysis Model: Deddy Herdiansjah, Ph.D.

 Company Background

• Medi-Cult, a Danish biotechnology company specialized

in the cell culture media. The technology was exploited
into two major application markets: a clinical application
and an industrial application
• Markets:
– France, Great Britain and the US
– International market (through Amdex A/S)
• In 1997, total sales reached USD 3 mio, and came from
the IVF product
• In Aug 1998, IVM was introduced
 A Snapshot on Technology

Assisted
• IVF = In Vitro Fertilization Reproductive
• IVM = In Vitro Maturation Tech. (ART)

• IVM can reduced the physical and psychological

effects caused by 30 days hormonal stimulation
• IVF Treatment: Hormonal Stimulation, Egg
Aspiration, Fertilization, Embryo Transfer
 Product Analysis:
IVF Process vs IVM Process

2. Egg Aspiration
1. Hormonal Stimulation
3. Egg Fertilization
GnRH-agonist 30-32 days
FSH 8 -14 days 4. Embryo Transfer

hCG

Menstruation

21st day 1st FSH 9th FSH

date date
in cycle

IVM: Only Egg Aspiration, Fertilization and Embryo Transfer exist,

the step 1 is eliminated (no stimulation process)
 Product Analysis:
IVF Process vs IVM Process

The major benefit of IVM to IVF is that it doesn’t require

woman to go through the thirty days of self administered
hormonal injections, associated with the significant side
effects.
This is a drastic departure from current assisted
reproductive technologies (ART) and thus represents a
radically innovative product
 Product Analysis:
Qualitative Evaluation of IVM value

• IVM is the 1st mover (pioneer) in the market

• The impact of Euro on regional policies
• The influence of stakeholder on IVF & IVM treatment :
– Infertile couples
– General practitioners, specialist physician, clinic involved with
in vitro procedures
– Government health services
– Insurance Companies
• Competitors such as Ganentech, Cetus & Genex
• Marketing strategy: Hub and Spoke approach
 Product Analysis:
Cost Comparison

• Cost of IVF cycle

Cost of IVF Cost of Lab Work Misc Costs TOTAL
Treatment (a) Hormones (c) (d) (a+b+c+d)
(b)
USA $4,000-$6,000 $3,000 $500 $500 $8,000-$10,000
Rest of the $2,000-$3,000 $1,500 $300 $200 $4,000-$5,000
World
Note: The cost of IVF media is $50 per cycle, incld. in the cost of treatment
• Cost of IVM cycle
Cost of IVF Cost of Lab Work Misc Costs TOTAL
Treatment (a) Hormones (c) (d) (a+b+c+d)
(b)
USA $4,000-$6,000 $300 $250 $250 $4,800-$6,800
Rest of the $2,000-$3,000 $150 $150 $100 $2,400-$3,400
World
Note: The cost of IVM media is not included yet
 IVM-IVF Product Analysis:
Cost , Competitors, Consumers

There are some advantages regarding the new found technology IVM compare to IVF

a. IVM method eliminates step 1 in the process (Hormonal Stimulations)

b. Can eliminate the side effect due to the hormone stimulation
c. The cost for hormone falls 90% and lab work, miscellaneous cost also drop 50%
d. Reduce the time for maturing process from 30 days to 2 days

In the “High Tech. Market” such as the Medi Cult Case there are “Three C’s Pricing” that the Medi Cult has
to be considered :

a. Cost
b. Competitor
c. Consumers

If the Medi Cult sensitive enough to analyze “The Three C’s” above then Medi Cult can determine what is
the price strategy to this new IVM method since the price is very sensitive to the costumer and competitor

a. If the price too low then could be impacted to profitability and risk having the
credibility of the product questioned
b. If the price too high might only attract limited number of the infertile couples
 COST

Based on the information from this case (Exhibit 1) Medi Cult Financial Information
1996 1997 Increment
Net Turnover 15600 20560 4960
Production Cost 5786 8053 2267
Gross Result 9814 12507 2693

Sales & Marketing 5656 10039 4383

G & A Cost 6111 7378 1267
R & D Cost 2001 4981 2980
Result Before Financial Items (3954) (9891) (5937)

Financial Items – net 839 2553 1714

Result Before Extraordinary Items (3115) (7338) (4223)
Extraordinary Items 223 148 (75)
Result before tax (3338) (7486) (4148)

Most of the increment cost spending in in Sales & Marketing, Research & Development

Based on the information above that Net Turn Over increase only 32% and the total cost in 1997
Was 30451 DKK and 1996 was 19554 DKK, increment of 56% or DKK 10987

In addition to the cost information of IVF and IVM Treatment , they set the price different to each country such as :
USA ($) Rest of the World ($)
IVF 8000 – 10000 4000 – 10000
IVM 4800 – 6800 2400 – 3400
If I assume that the pricing strategy of the IVM is the same with IVF then the profit can be retained, Since
the IVM method price is lower than IVF method, the IVM has lots of opportunity to set the margin.
 COSTUMER
Most of the Costumer is “Infertile Couple”, since they are the most important parts and they
determine which treatment they wish to have. The bottom line of the Medi Cult case what the
pricing strategy and level they should determine to attract the costumer to utilize the Medi Cult
product. The most burden to Medi Cult if they set the price to low or to high, they have to take
the risk.

COMPETITOR
Medi Cult face two different competition :
a. From large pharmaceutical companies since the IVM method significantly reduce
the need to hormone and this method impact to the pharmaceutical business
b. The other biotech companies would develop their own product and clinical
procedure.
Since the Medi Cult is the “First Company” in this business, they expect they have two or three
years advantages by being the first to market.
 Based on the Exhibit 4 :
a. HIGH PRICE
Country Price Volume Turnover Market Share
Denmark 1875 325 609375 5
France 1571.4 500 785714. 28 1.5
UK 1500 2000 3000000 8
USA 2200 1200 2640000 1.5
7035089.28
b. MEDIUM PRICE
Country Price Volume Turnover Market Share
Denmark 1562.5 500 781250 7
France 892.85 650 580357.14 2
UK 1166.67 3000 3500000 12
USA 1600 1200 1920000 1.5
6781607.14
b. LOW PRICE
Country Price Volume Turnover Market Share
Denmark 1250 1200 1500000 17
France 714.28 900 642857.14 3
UK 833.333 4000 3333333.33 16
USA 1000 1200 1200000 1.5
6676190.48
 QUESTION 1
What product pricing strategy if I were the Chief of Economist to
maximize the profit in the short & medium term?
Based on the information on the previous page :
The product prediction regarding the pricing analysis and strategy :
a. USA : No price sensitivity, it seems that the price doesn’t effect to the volume of the market.
The market volume doesn’t change at any level of the price, may this impact due to patent
of the process, media . Meaning that the USA, this product is an inelastic product
b. Denmark, France and UK : The market is sensitive to the price based on the table shows that the
Higher price will give the lower market volume (elastic product)
Denmark : Very sensitive to the price due to the challenge from the government
adopt lower price @ US$ 1200 to 17% market share expectation
France : High price @ US$ 1600 with the turnover expectation US$ 785714.28
UK : Medium price @ US$ 1200 with the expectation turnover 4% market share different t
than lower price
Recommendation for the “Maximum Profit” in the short term:
Since the USA market has inelastic behavior and it is best to use the Skimming Pricing Strategy , the
pricing strategy will allow Medi Cult to charge the high price and to be able to have a high profit on the
product sales. The most important is to enable Medi Cult to have a quick recovery of the R & D cost,
improve financial performance as well as building the trust.
 Continue form part a.
The Europe markets, it is best use the Penetration Pricing Strategy, considering this region is
elastic behavior, it would be better that the Medi Cult has produce the product with low initial price
to capture a large market share and the aim of this tactics to reach the big market in the early
stages of the product life cycle and could block entry barrier into the market for the new
competitors.

Recommendation for the “Maximum Profit” in the medium term :

USA region, assuming that the development cost is already recovered, the product is already
well known in the market, therefore the Medi Cult can lower the price to attract the larger market.
The technology become an industrial standard (IVF become IVM) and Medi Cult can have a two
or three years advantage by being the first to market since any company that wished to introduce
a competing product or process would have to undertake the clinical trial and document live
births. The budget for promotion and marketing can be less since the market is already mature
enough to know this product and Medi Cult can lower the price in the medium term. Since the
product in USA market can be sold with the high price, the additional price can be subsidized to
Europe region (Subisidi Silang)

Europe region with assuming that the product has been basically well known therefore the large
market can be attained and the company can get more profit and increase the price to gain more
profit of this product
Qestion #3: What product-pricing strategies, if any, would you strongly recommend
Mr. Krogen to apply so that the company is able to maximize the profit of its business in
the short and medium-term?

Since Medi Cult is the First Company to find the IVM method, therefore Medi Cult could implement the
“Monopolistic Power” in the market. The Price discrimination could be applied to this case is the “Third
Degree Discrimination”.
The Third Degree Price Discrimination are :

A. The different prices for the same product which is sold in the different market, it should be charged
based location
- With the condition Denmark, France, UK and USA are treated as different market based on
location.
- Setting higher price for the market inelastic demand (USA) and lower price for market with elastic
demand (Europe countries such as : UK, Denmark, France)

B. Marginal revenue on each market is equal to marginal cost of production MR=MC then the maximum
profit can be achieved by selling this product on each level market
Medi Cult should distribute each successive output unit to the market in which the unit contributes most to
total revenues. And then Medi Cult should continue up to the point where the marginal revenue
derived from the sale of the last unit is just equal to the marginal cost of producing that last unit (MR
Market #1 = MR Market #2 = MC).
In this case, two market situations were Market #1 is USA market and Market #2 is United Kingdom. Market
#1 has the more inelastic demand situation, because of fewer competitors. Medi Cult will maximize its
total profits by selling the product in each market until MR1 = MR2 = MC. If MR1 > MR2, it pays for the
firm to redistribute sales from the second to the first market until the condition of profit maximization is
met. On the other hand, if MR1 < MR2, it pays for the firm to transfer sales from the first to the second
market until MR1 = MR2. The rule will then involve selling the product at a higher price in the market
with the less elastic demand than in the market with the more elastic demand. This is shown in graph
a, b and c
Graph a shows D1 and MR1 in Market #1; graph b shows D2 and MR2 in Market #2; and graph c shows D
and MR (the total demand and marginal revenue curves for the product that the firm faces in both
markets together). The D is obtained from the horizontal summation of the demand curves in Market
#1 and in Market #2. Note that up to Q = 60, D = D1. Similarly the total MR is obtained from the
horizontal summation of MR1 and MR2. Note also that up to Q = 30, MR = MR1.

Using numbers in the above graphs as an simple example, the best level of output of the firm is 90 units of
the product and is given in point E in graph c, at which MR = MR1 plus MR2 = MC = $2. To maximize
profits, the firm should then sell 50 units of the product in the first market and the remaining 40 units
of the product in the second market. For Q1 = 50, P1 = $7 on D1 in Market #1, and for Q2 = 40, P2 = $4
on D2 in Market #2. Thus, the firm generates total revenues of $350 in Market #1 and $160 in Market
#2, for overall total revenue of $510 in both markets together.

Assuming that the average total cost of the firm is $3 at the best level of output of 90 units, then Medi Cult
earns a profit of $4 per unit and $200 in total for Market #1. And profit of $1 per unit and $40 in total
for Market #2; for a total profit of $240 in both markets together. In the absence of price
discrimination, if Q = 90 at P = $5 (see graph c), so that profits are $2 per unit and $180 in total. Thus,
given the best level of output and costs, the Medi Cult can increase its total revenue and profits
significantly by practicing 3rd degree price discrimination.
 QUESTION 3
Question #4:
If Medi-Cult is able to
INTEREST
LOW HIGH

LOW

INSURANCE COMP. COSTUMER

GOVERNMENT

HIGH COMPETITORS

Based on the theory : Power Interest Remark

L L Minimal effort
L H Keep informed
H L Keep satisfied
H H Key Players
Based on this Medi Cult case most of the influence controls are on the H – H (Power and Interest)
a. Government
Medi Cult representative has to lobby the government personnel to get support regarding this
project for example Europe citizen can be categorized as the “Old Population” , with the support
from Government to campaign IVM project can help the Medi Cult to solve the market in the
Europe’s market
Government can influence also support the fund to support the infertility coverage
(government would cover some of all the expenses)
b. Costumer
Best campaign and well informed about the various treatment available to assist them in having
child
c. Competitor
Being the first company to produce the product has lots of advantages, they have a benefit of the
profit for 2 – 3 years, The Innovation or continuous improvement on process and product to
keep competitiveness (R and D need to be focused to expand the company business)
The big pharmaceutical company become a great competitor is the IVM can be managed
properly, the strategy that I propose sell the IVM with the lower price then we will get the
advantages of the market indirectly then the pharmaceutical company become our partners
compare to our competitor
d. Insurance Company
Strategic alliance with selected insurance coy to provide the benefit.
 2. When we set up the pricing strategy, set the price must be fulfilled 2 (two) components:
a. Maintain the quality of the services (Degree of the Satisfaction)
b. Maintain the “Credibility” of the successfulness of IVM method
When set up the price strategy, the price has to include “Another Opportunity” meaning that if the
first chance fail, then we have to give the second chance for the infertile couple
For example :
if the infertile couple fail in the first chance, the price for the second chance price has to
lower than the first price (50% from the base line price) or the second chance is only cover
for operation cost only (no profit for the second chance)

3. The infertile couple has to be examined or observed with the right and proper procedure, if the all
the quality assurance has been followed properly then the IVM project can be proceed. And if the
the IVM fail, then the Costumer must be know in advance (don’t say to much promise if the ch
is only 10%)
4. The Medi Cult company should not act like a “Tool” only but should Facilitate” them in the right
way, they should convince the infertile couple that there will be a follow up action to attain the
goals
5. Focus on the IVM products since the cost is lower than the IVF, so the Medi Cult more
concentrated to this product.
Estimated Number of IVF cycles (1998)
Canada
4% France
14%

Germany
USA
12%
33%

Italy
11%

UK
Rest of Europe
Denmark 10%
13%
3%
 Problems Identifications

1. What pricing strategy suitable to exploit the

utmost benefit of having the innovative product
so that Medi-Cult is able to maximize profit in
the short and medium-term?
2. What price discrimination could the company
apply to maximize profit based on the
monopolistic power of IVM?
 Pricing Strategy

• Objective: profit maximization in short and medium-term

• Assumption:
– Real inflation adjusted price was stable over time thus
enhanced the legitimacy of the launch price
– If IVM is introduced at low price, the “improved” versions
could be launched at higher price since the IVM would be
absorbed by the market and become industry standard.
• Multinational Price discrimination is selected, US vs
European countries (both have 72% of market share)
 Results of IVM Pricing Exercise

Notes:
1. Price for a single dosage sufficient for one cycle
2. Estimated number of IVM cycles for the first 12 months
3. Percentage of total number of IVF cycles within that country
Currency exchange rates (Jan 1,1999):
US$1 = FF 5.6 (French) = £0.60 (British) = DKK 6.4 (Danish)
 Computation of Contribution Margin

C.M = revenue – variable cost

• Variable cost for IVM is slightly higher than current cost of IVF
• No investment on production facility, the capacity is still adequate
Thus,
 Demand Curves

Demand Curves

$3,000
Price per dosage (US$)

$2,000
$1,000 Denmark
$0 France
($1,000) 500 1000 1500 2000 2500 3000 3500 4000 UK
($2,000) US
($3,000)
($4,000)
Num ber of cycle

In the case of USA, the price elasticity > 1 means that patients will pay any price
for a single dosage (strong consumption power), as evident that price can be
constant at $1,600 for any volume purchased
 SCP Analysis
• Industry Structure (short-medium term)
Customer base: COMPETITION:
•Infertile couples Ares-Serono
(patients) Organon
Monopolistic Ferring
•Doctors
(1st Mover) Wyeth-Ayerst
•Clinics

Concerns: cost Discomfort & risky

and risk of treatment, thus no
treatment competitors!
Government
Regulation COMPETITION: Threat: discredit the
and European Companies process, demand
Insurance (new technology: approval for IVM,
Companies Molecular modelling) withdraw funds to
clinics who adopt it
US & UK: Low reimbursement France No competition: and stop sponsoring of
& Denmark: free 3-4 attempts. Force take 2-3 yrs to physicians
the price of IVM medium low  less develop!
funding
 Analysis of optimum pricing to maximize
profits (Europe market vs US market)

Demand Curves

Price per dosage (US$) $2,000

$1,500
Europe
$1,000
US
$500

$0
500 1000 1500 2000 2500 3000 3500 4000
Num ber of cycle

Contribution Margin

$2,000

$1,500
Price per dosage (US$)

$1,000
Europe
$500

$0 US
500 1000 1500 2000 2500 3000 3500 4000
($500)

($1,000)

($1,500)
Number of Cycle

Price discrimination is optimum at volume ±750 cycles

 Recommendation

• Multinational price discrimination results in the most optimum prices at 750

cycles/year:
– US market: US$ 1,600/dosage or cycle
– European market: US$ 1,350/dosage or cycle (average volume, the
actual volume for each country could vary)
• At these prices, Medi-Cult can adjust the pricing for competitiveness (after
1-2 year), but still enjoy benefit in medium-term
• US and UK were estimated to get high sales volume, thus Medi-Cult can
highlight this area
• Due to potential competition, Medi-Cult must give extra attention to
physicians/doctors and clinics by provide funding, sponsorships, training,
etc
• Customer awareness about the ease of IVM process must be built through
the Hub and Spoke approach (main and secondary hubs are optimized as
sales and distribution chain)