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How would you proceed ?
asked in Estimation by (13 points) | 214 views

2 Answers

+1 vote

Few assumptions to begin with:

1. Is this new technology or one more entrant into an existing market?

Assumption: New Technology. If no, then you have to take into consideration competitor pricing as well as market growth rate to evaluate whether you would do cost+/value-added pricing in an existing market or focus on growing areas of the market where the competition isn't fully entrenched, and same question here as to whether we go after cost+/value-added pricing in that new market.

2. Is the cost of manufacturing blood on a unit scale much less than the cost of procuring it via donation?

Assumption: Yes cost is much less if manufactured at scale.

3. What is the value of scale or minimum threshold?

Assumption: 100,000 units of blood /year. 

4. Has it been verified that the market size is greater than minimum threshold?

Assumption: Yes. If No, then this is the first requred step. 

5. Is the unit cost of manufacturing fixed based on min threshold?

Assumption: Yes. What this means is that even if the unit cost of manufacturing reduces if the total bottles produced are much higher than the threshold, we will still consider the unit cost based on the threshold value. E.g. if unit cost is 50$ based on 100K threshold of manufactured bottles of blood and if total number of bottles of blood produced is say 1M, we wont reduce unit cost to be 5$ for pricing evalution. We will still hold the unit cost to be 50$.

6. What is that unit cost?

Assumption: 250$. The simplication here is that we have accounted for the cost of R&D, manufacturing, operations, sales, etc. within the 100K threshold cost and divided it by 100K.

7. What is our pricing strategy: Cost+, Value added? Another commentator had a much more refined way of articulating the pricing strategies into 6 different types. In that parlance I am thinking Economy pricing or Premium pricing?

Assumption: Economy pricing / Cost+ pricing. If its valued added pricing, one has to go into perceived value from a customer standpoint.

8. If cost+ what is the profit margin?

Assumption: 100%

9. Is cost of manufacturing different based on blood type? E.g. is AB type more expensive to manufacture vs B type?

Assumption: No

Answer 1: Based on the assumptions above, one way to caluclate the price of this blood on a per unit basis would be: 250$ + 100% margin = 500$ / liter of bottle.

Lets make this a bit more hairy.

For Assumption #1 above lets say its not a new technology. Assuming that is the case you have to consider Value added pricing since Cost+ pricing will only take you down a rabbit hole of downward pricing to beat competitor pricing, which is a losing proposition if you dont have deep pockets and more so it will dilute your brand given the 'cheap' pricing perception for something that is supposed to be a life-saving product. Plus for something that is a lifesaving option, customers are more likely to look at how much better it is at saving the patient's life vs the cost. 

Now for value added pricing, you do need to do the market size analysis. Why? Because if after any reasonable assumptions of being able to capture a certain market size, if that size is much less than 'minimum scale' assumption question #3 above, you probably are going to have a tough time competing and staying in the business using value added pricing, if your competition's pricing is lower than yours.

So lets do some market size analysis:

10. What markets is this product for?

Assumption: U.S. only.

11. What is unit size of the product when sold individually?

Assumption: 1 liter bottle

12. How many patients need blood in the U.S. on an annual basis?

12.1. Subquestion: What percentage of the population needs hospitalization?

Assumption: 1%

12.2 Subquestion: What percentage of those that are hospitalized need blood?

Assumption: 10%

12.3 Subquestion: What is the average length of stay of a patient in the hospital?

Assumption: 1 week.

12.4 Subquestion: What is the population of U.S.?

Assumption: 300M

12.5 Subquestion: How many weeks in a year?

Assumption: 50. Try to work with easy to use numbers :).

Answer to question 12 based on the subquestions: 300M x 0.01 x 0.1 x 50 = 15M patients annually. 

13. What is the average # of units of blood needed on a per patient basis?

Assumption: 2 liters. One curveball that the interviewer may throw at you at this point is why use average and not median. Answer is: average and median are very close to the same number for a large sample size. For a really small sample size it may make sense to use median. In this case since we are dealing with millions in sample size, average would work just fine.

Based on the market size calculation above, the total market size would be 15M x 2 = 30M liters of blood annually.

14. What % of the existing market do we think we can capture?

Assumption: 5%

15. What is the growth rate of this market?

Assumption 3%

Based on these assumptions, the market size that you would get to capture on an annual basis would be: (30M + 30M x 0.03) x 0.05 = 1.545M liters of blood. For the current set of assumptions, this number is higher than our threshold amount so lets move forward with value added pricing.

16. How many competitors exist in the market?

Assumption: 1

17. What are the key features that customers look at to evaluate the options: yours vs competitor's product?

Assumption: 

a. Price. Weightage/Importance: 25%

b. Rejection rate by patient's body. Weightage/Importance: 75%

c. % of cases where complications occur within 1 week of blood transfusion. Weightage/Importance: 75%

d. Shelf life of the product. Weightage/Importance: 75%

e. Ease of availability. Weightage/Importance: 90%

Based on the features above, one can then run conjoint analysis on the feature set to derive a set of combinations that a customer may go for, which may look something like this (going into the details of conjoint analysis and how to derive a final $ price would be far beyond the time and scope of the interview ihmo) : 

 Your productcompetitor
Available within24 hours3 days
Expiry period1 month1 week
Acceptance Rate99%90%
Post transfusion complications<0.01%<5%
Price per unit1200$1000$

This could be one combination to test with against focus groups. You may want to test with a few other combinations to find one that is better to go to market with. 

 

 

 

answered by (20 points)
0 votes

Here's my approach to solve this question -

There are 6 kinds of pricing strategies that are mostly used by businesses -

  1. Premium pricing - For product which has an actual/perceived value over its competitors. This strategy is also for businesses which have unique goods.
  2. Penetration pricing - For products which are new in the market and need awareness. The main strategy is to penetrate the market, gain significant market share and then raise the prices slowly to recoup the losses+investment
  3. Economy pricing - For products which are undifferentiated in a commoditized market. This strategy relies on high volume sales and efficient operations to keep the bottom line high.
  4. Price Skimming - For products which are new in the market and have a good value proposition for innovators and early adopters. This strategy helps the business recoup its investment and provide a feeling of exclusivity for its early consumers.
  5. Psychology pricing - This strategy is used by business to exploit cognitive biases of consumers. Some examples are anchoring and charm pricing.
  6. Bundle pricing - Finally, bundle pricing is a pricing strategy where multiple products  are sold together at a lower price than being sold individually. This helps businesses clear unsold inventory and also provides perceived value for the consumers.  

 Apart from these, there are some other pricing strategies such as freemium, predatory etc. but I would like to concentrate on the one which is most applicable in this scenario which is Price skimming. There are multiple reasons for choosing price skimming as the strategy. These are -

  1. Since the product seems to be a unique product (based on new technology) which eliminates the dependecy of blood on doners, its value inherently is high.
  2. The biotech company would have spent a lot of money on R&D and it needs to recoup that investment through early adopters of the product hence price skimming makes sense.
  3. Assuming very few or no competitors are there in the market, the biotech company can determine the price. 

Having said that, since this is a life saving product at times, the pricing should not be set too high for humanitarian reasons.

Now, lets price the product. We can do this exercise via two approaches -

  1. The first approach would be to consider four factors - Investment in R&D, size of the market (early adoptors), willingness to pay and expected time to recoup the investment. In this approach, we need to find a balance between the willingness to pay, size of the market and break even time.
  2. The second approach would be to consider the cost of purchasing blood through donation. The cost would include the actual price including the monetary value of finding a donor. Once this cost is calculated, an x premium can be charged over it which again will consider the target market's willingness to pay.

This will be my approach of pricing this product. Thanks.

answered by (14 points)

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