Avoiding Complacency - A Strategy for Boston Scientific to Maintain Profits

Avoiding Complacency A strategy for Boston Scientific to maintain profits in a rapidly evolving coronary stent industry Introduction Since doctors performed the first angioplasty in 1977, the popularity of the procedure as an alternative to invasive artery bypass graft surgery has grown steadily. The 1987 introduction of the bare metal stent to support the propped open coronary artery significantly increased the longevity of the technique. In 2001, efficacy was further improved through the introduction of the drug-coated stent. Since then, the stent industry has rapidly developed through the take-off phase of the industry lifecycle, and a rash of consolidations has been constantly altering the competitive landscape (see Appendix, Exhibit A). Now the dust has settled, and we see the clear emergence of two dominant firms—Johnson & Johnson (J&J) and Boston Scientific Corporation. With extremely high margins (gross margins average 85%), growing sales, and competition focused around product quality and customer relationships, this industry is wildly profitable. However, the current golden times of the stent industry cannot continue indefinitely. In addition to the tendency of high profits to attract entrants, an in-depth analysis of the industry structure and competitive environment reveals the potential for shake-up lurking in a variety of different trends just now beginning to emerge. This is precisely why the incumbents must evaluate their technology strategy going forward, and develop and begin to implement the processes and initiatives that will enable them to stay one step ahead of the disruptive forces, be they technological, competitive, environmental, or governmental. In this paper we take the perspective of Boston Scientific Corporation, the current leader, and develop a technology strategy. We begin by examining the evolution of the stent industry, focusing on some of the key drivers responsible for current characteristics. We then provide a comprehensive analysis of the industry dynamics including how the firms capture value, and Boston Scientific’s strategy to date. Finally, we look ahead to how the industry may continue to evolve, analyze the major risks to the status quo, and provide recommendations for how Boston Scientific can successfully navigate the upheaval that we predict will emerge, in order to retain its market share, profitability, and growth. The Evolution of the Stent Industry: S Curves The bare metal stent represents the dominant design of a medical device created to prevent artery collapse and restenosis (analogous to “scar tissue” formation following surgery, and leading to artery blockage). Stents were first approved for use in the U.S. in 1987. Over the subsequent years, several materials and designs for stents were studied for introduction into the narrow opening of the coronary artery. While stents solved the problem of artery collapse post-surgery, restenosis persisted, affecting as many as 25-30% of patients within six months of the procedure. To overcome this, a new type of stent was developed that was coated with a drug to prevent “scar tissue” growth and artery reblocking. This new generation of stent first experienced deleterious side-effects including blood clotting and in extreme cases, death. However, eventually scientists figured out an optimal design, where the bare stent was coated with a thin polymer coating that allowed for sustained release of the encapsulated drug. The figure below depicts the S-curves for the stent industry. A natural technological limit (i.e. inability for sustained prevention of artery collapse and restenosis) in the balloon angioplasty procedures gave way to a new, disruptive, stent industry; stents are used in over 70% of angioplasties, and the number is projected to continue to grow. While the initial designs for an artery prop-up device were inferior, a dominant design emerged in the form of a bare metal scaffold or “stent”. The introduction of the stents also saw many medical device companies (e.g. J&J, Guidant) become players in the market. Stents solved the arterycollapse problem, but their inability to tackle the restenosis issue can be seen as a flattening out of the performance-time profile. The subsequent introduction of the drug-eluting stents marks the first disruption to the stent industry. Since a variety of combinations for the drug and coating were studied, and the use of the drug-coated stents resulted in a marked increase in performance, a new S-curve for the drug-coated stent industry is appropriate. Drug-eluting stents are currently entering the take-off phase of the industry cycle. The dominant design has been established and only two major players (J&J, Boston Scientific) are experiencing explosive revenue growth. The drug-coated stents have cannibalized on sales of their bare metal counterparts, thus reducing revenues for the other players in the stent industry. Drivers of Industry Evolution Overall, the high product margins make this an extremely lucrative industry. The industry has continued to deliver abnormal returns because the large complementary asset base (manufacturing capability, relationships with physicians, large sales force and brand) serves as an effective barrier to entry (see previous section or Appendix, Exhibit B). In order to analyze the dynamics of the coronary stent industry, we must first consider the principal drivers of industry structure. Heterogeneity of Demand: Nonexistent. All consumers (surgeons, patients) are looking for the best possible product. Drug-eluting stents are evaluated based primarily on their ability to prevent restenosis over the maximum period of time. The presence of the third party payer system in this industry further reduces the prospects of product differentiation. High Learning Curve: Exists. The high-precision, FDA-approved manufacturing required to marry the drug with the metal mesh leads to a significant learning curve. As the stent manufacturers continue to gain expertise, for example, we see fewer product errors, which can lead to a drastic drop in market share; an example of this is the recall of Boston Scientific Corporation’s products late in 2004. Economies of Scale: Exists, but not a huge factor. As with virtually all manufacturing-based industries, economies-of-scale are present, as the costs per unit decline with the number of units. However, it is apparent that the economies-of-scale that exist in the industry do not play a vital role because product margins are extremely high (~60% net margins). Complementarities/ Network Externalities: Nonexistent. There are neither direct nor indirect network externalities for stents. Given the distributed nature of the customers where the purchasers (doctors) are different from the consumers (surgeons/patients) and the payors are third party, i.e., insurance companies, it is unclear how the use of a particular stent by one health network would reinforce its use by another. The only relevant ‘externality’ is the reputation/brand. Switching Costs: Nonexistent. Were the quality/availability of a certain type of stent to decline, it would be virtually effortless for the hospitals/medical centers to switch to another. The only relevant cost would be the lost inventory from prior orders, which is sunk (given the above decline) anyway. Product Functionality Spillover: Exists. It is extremely easy to reverse-engineer a drug-eluting stent. Any significant advance by one firm can be reverse-engineered and analyzed by another. In fact, this is known to occur all the time in this industry which is one reason we have yet to see any significant technological strides that remain unique in the marketplace. Branding: Exists. With the key decision makers being surgeons, firms rely heavily on developing relationships with physicians through their sales force and developing the brand. In addition, product branding at medical conferences also aids in word-of-mouth advertising amongst the community. Nature of Current Competition According to market data from IMS, analysts predict a tripling in stent market value from around $2 billion in 2003 to more than $6 billion in 2008. As of early 2005, J&J’s product, Cypher, had 35% market share with the remaining 65% being commanded by Boston Scientific’s product, Taxus. The competitive dynamics of the duopolistic stent industry are thus extremely favorable. We see two dominant firms who compete on everything except price, and each is essentially printing money. An examination of the above drivers reveals why this makes sense. The drug- eluting industry is one that is currently transitioning from take-off to maturity. We have just seen an aggressive shakeout/M&A period and two dominant firms have emerged (see Appendix, Exhibit A). The homogeneity of demand has helped these two firms solidify their dominant positions, as they are able to attack the entire market without leaving open niches for possible entrants. A key difference between this market and those where two firms competing leads to a war of attrition is that there is enough demand to make both firms wildly profitable (~$2B market size and growing in 2003). Further, the homogeneity is complemented by several other drivers including: Extremely high margins – The huge margins tend to deemphasize any cost advantages that one firm may have over another. Therefore, the presence of economies of scales, and other cost structure advantages don’t really affect competition. Importance of branding and distribution – The firms in this industry, like those in the pharmaceutical space, rely on physicians to recommend their product. Thus, the development of strong relationships with the physicians is critical. Because price is not a concern, the incumbents are much more likely to place nicely, instead focusing on spending on building relationships, brand, and distribution rather than whittling down margins. Absence of externalities/switching costs – In industries where both switching costs and externalities are in place, there is a major effort at the outset to acquire customers (see cable / satellite TV). This leads to high spend on price promotions, advertisements, discounts, etc. Often, the last firm standing wins a pyrrhic victory. With stents, however, the reverse is true. There is no compelling reason to sacrifice margins and compete for customers are the outset, which again leads to the non-price, quality-based competition we see today. Buyers and suppliers – The nature of the product and customers makes the industry extremely favorable. Since the buyers are much more worried about performance of products (due to the principal agent problem that doctors play in this industry) the ability to maintain high margins is strong. Supplier power is low, given the materials used are commodities. Capturing Value in the Stent Industry At the outset, like most fledgling industries, the fundamental mechanism of value capture in the stent industry was to capitalize on the uniqueness of the product, supported by speed to market. “Speed” in this case we define as having the capability to produce stents approved for use by the Food and Drug Administration (FDA). Since the general concept of a stent was never patented, the only type of IP granted in this industry revolved around different forms/materials, and we see this is easily designed-around. Simply having the capability to produce these revolutionary devices allowed the early producers to capture a great proportion of the value created. It was essentially a “land grab”, with the earliest stents selling for ~$1,595, with an 80%-90% gross margin. As the bare-metal stent industry moved from ferment to take-off to maturity on the S-curve, however, the development of complementary assets has allowed sustained value capture. In fact, even as we see the disruptive drug-eluting stent emerge to significantly increase the percentage of restenosis prevention, the dominant players have developed complementary assets to such an extent that their position in the industry remains unchallenged. Complementary Assets Analysis The matrix below depicts the transition of the industry from one where value capture was dominated principally by uniqueness and speed-to-market to one where complementary assets are playing a crucial role. This is the principal reason why there are very few entrants even though it is a highly profitable industry. The following complementary assets have allowed for maximum value capture: Manufacturing capability: Manufacturing of drug-coated stents has revealed learning curve advantages. While costs of manufacturing decrease in such a situation, the more important parameters are product performance and reliability. Developing high quality manufacturing facilities has proven to be tricky, requiring strict humidity control, etc. Hence, firms with a manufacturing base in place are at a clear advantage with respect to translating product innovations into speed-to-market. Distribution channel: Relationships with the decision makers, i.e. surgeons and hospitals, are key to promoting product acceptance. Reputation: Brand and reputation are important complementary assets, particularly because of the serious nature of the surgery. Having an installed base of healthy patients is an indicator of success. 6-Forces Analysis of the Stent Industry Finally, we turn to a 6-forces analysis of the stent industry to demonstrate the high potential for value capture for the large, established incumbents (summarized in Appendix, Exhibit B). Supplier Power-Low: In the case of the drug-coated stents, most of the medical device firms have in-house capabilities to manufacture the polymer coating. Suppliers of the drug and the coating raw materials are not expected to have much power in the value chain (depicted in Appendix, Exhibit C). Buyer Power-High. The decision makers are the surgeons and hospitals. Since the product is paid for by third party players, there is no incentive for the decision makers to choose on price, an example of a classic principal-agent problem. Barriers to Entry-High. Barriers to entry into the stent industry include strong product positioning of the incumbents, brand and reputation, their large medical sales force, and strong relationships with the hospitals and surgeons. Substitutes-Low-Moderate. The primary substitute to the introduction of a stent is conventional coronary artery bypass graft (CABG) surgery. With an increasing number of patients preferring minimally invasive surgery techniques, angioplasties are gaining popularity. Rivalry-Low. The biggest players in the industry, Johnson & Johnson and Boston Scientific Corporation seem to compete less on price and more on quality. Government Regulation-High. The efficacy and safety of clinical trials conducted for these products are judged by the FDA. The FDA holds the right to withdraw the product in the face of patient complaints, unsafe manufacturing practices, etc. Relationships with the FDA are critical to gaining accelerated approval for products. Further, analysts are closely observing how the government responds to the controversy over the high cost of prescription drugs, e.g., potential price ceilings in the pharmaceutical industry are sure to find their way into the medical device markets. Boston Scientific Corporation’s Current Strategy Given the competitive environment that currently exists, Boston Scientific has been able to create a powerful re-enforcing loop as shown alongside. This has resulted in their dominant position in the stent industry. They have been able to get to this position by spending aggressively on both marketing and R&D. In comparing Boston Scientific to other players in the market (both bare metal and drug coated stent manufacturers), it is clear that the proportion spent on R&D and SG&A is similar. However, since Boston Scientific has nearly 70% of the market, the real dollar amount difference that Boston Scientific enjoys over its competitors allows it to maintain its dominance (see Appendix, Exhibit E for details). Boston Scientific has been able to maintain its position because new product features are perceived by doctors to be major advances. In the near future, the ability to continually add features that are positively perceived by doctors will be difficult. Restenosis prevention approaching 100% will obviate the need to spend 13% of R&D. In this case, how should Boston Scientific react? What will happen to the competitive dynamics? We look to address some of these questions in the sections that follow. Looking to the Future In this section we first analyze the three foreseeable risks to profitability (competition, disruption and new entrants), and then develop a strategy for Boston Scientific over the next 5 years. Competition Armed with their Taxus and Cypher brands, respectively, the consistent growth of the drug coated stent market has helped both Boston Scientific and J&J continuously grow over the past few years. However, this growth cannot continue unbounded. Eventually, the penetration of angioplasty will reach its maximum, and growth going forward will mirror that of the target population. When this occurs, super-normal returns will not longer be achieved by simply being in the market, and the nature of competition has the potential to drastically change. Increasing market share becomes the only way to continue to grow, and this represents a zero-sum game. The competitive actions undertaken by J&J and Boston Scientific have the potential for devastating effects upon the industry’s profits. We employ the systems dynamics industry flight simulator to evaluate this scenario—what should be Boston Scientific’s optimal response to an aggressive competitor? The inputs to the model are enumerated and explained in Appendix, Exhibit D. For the purposes of the simulation, we assume that each player will strive for a target market share of 60%. The 5x5 matrix below depicts the cumulative profits to each player over a 10-year time horizon given the pricing and market share capture strategies that each chooses. Product prices at the end of the 10-year time horizon are indicated in parentheses. BOSTON SCIENTIFIC J&J N.B.: PRICING AND MARKET SHARE CAPTURE STRATEGIES Neutral Pricing, Fixed Market Share Very High Pricing, Fixed Market Share Neutral Pricing, Aggressive Market Share Very High Pricing, Conservative Market Share (DOMINANT) Very High Pricing, Aggressive Market Share Neutral Pricing, Fixed Market Share -140, -190 (67.4, 67.8) -83, 8.9 (73.9, 89.9) -144, -216 (67.6, 68.2) -51, 110.6 (80.8, 118.1) -88, -28 (74.2, 90.5) Very High Pricing, Fixed Market Share 80, -132 (89.7, 74.4) 173, 102 (96.1, 96.1) 73, -160 (90, 74.8) 212, 210 (104.2, 128.1) 163, 60 (96.3, 96.5) Neutral Pricing, Aggressive Market Share -175, -194 (67.9, 68.1) -119, 2.8 (74.5, 90.3) -177, -219 (68.1, 68.4) -86, 105 (81, 117.4) -121, -31 (74.5, 91) Very High Pricing, Conservative Market Share 181, -99 (118.2, 81.4) 281, 140 (128.6, 104.4) 175, -127.8 (117.7, 81.5) 331, 258 (138.2, 137.9) 272, 98 (127.1, 104.4) Very High Pricing, Aggressive Market Share 29, -137 (90.1, 74.6) 119, 93 (96.4, 96.4) 27, -162 (90.4, 75.1) 158, 201 (104.2, 127.2) 112, 54 (96.6, 96.8) 1. 2. 3. The first line in each box indicates cumulative profits in $ billions over 10 years Prices at the end of the 10 year horizon are indicated in parentheses, in dollars The first number in each set refers to J&J, the second to Boston Scientific We draw the following observations and inferences from the results. While market shares vary over portions of the 10-year time frame (see Appendix, Exhibit F for sample results), the players ultimately end up dividing the market exactly in half irrespective of the strategy they choose to follow. This model simulates results for both players starting with 0% market share. It predicts the revenues for Boston Scientific given that J&J adopts a certain strategy. Hence, the results often indicate higher revenues for J&J as the first mover. For our industry, this is certainly not the case. With close to 65% market share, Boston Scientific will see more revenue per dollar of marketing spend than J&J because it already enjoys a larger installed base of physicians and higher degree of product awareness. In all cases, prices drop from an initial value of $2350 (2005 prices) to the $100±30 range after 10 years. While we expect some decline in prices over the next few years, we don’t see the prices falling to $100 levels for such an important healthcare product. For reference, at the time of their US launches, Taxus cost an average of $2,675 and Cypher $2,900; by the end of 2004, these prices had fallen to $2,450 and $2,350 respectively. The model, on the other hand, shows prices in the $500 range after the first year itself. As explained in previous sections, coronary stents are associated with relatively inelastic demand, fueled by patient insistence for the best product and by the fact that the decision makers (i.e. physicians) are not the payers. It is true that the product prices are heavily influenced by the reimbursement limits set by the insurance companies, but we still don’t foresee such a drastic price drop. In the ideal scenario, each player will choose a very high pricing, conservative market share capture strategy in the effort to maximize the overall pie and also individual profits. In this situation, J&J makes $331B while Boston Scientific makes $258B. The prices at the end of the 10-year horizon are higher than those for any other strategy combinations. Such a strategy will ensure a “collusion-like” play, with each player focused on maintaining high prices, rather than eroding market share through a competitive price play. In the real world, we expect J&J to employ a very high pricing, aggressive market share capture or neutral pricing (i.e. price followers) but aggressive market share capture strategy. In either case, the optimal response for Boston Scientific is to price its products very high relative to J&J, and adopt a conservative approach to market share, choosing to improve margins rather than flooding the market with product. A very high pricing, conservative market share capture strategy is the dominant strategy for Boston Scientific. The model corroborates our hypothesis that in a market such as this, manufacturers should strive to maintain high prices and compete on quality rather than drive down prices to increase market penetration. For a given set of strategies, we also examined the effect of increases in the percentage spend on product development, process improvements, and marketing. The dollar increase in cumulative profits for a 10% increase in any one of the three variables is approximately the same. Because there is such a high spillover of product functionality, it is optimal to match the competitor’s spend on product development since the fruits of excessive product development effort will not be enjoyed for very long. Shrinking the marketing spend, even by only one player, leads to a decrease in the overall pie and profits for both, reinforcing the belief that marketing is key to enhancing the value created by the product. Finally, while the industry is associated with a significant learning curve, process development does not drastically enhance profits because of the high intrinsic margin (~85% gross margins) for these products. For an industry like this, however, process development (e.g. optimal conditions for coating the stent, method of coating, environmental conditions) is imperative to enhancing product consistency and quality, and can thus be seen to be intimately linked to product development; this is similar to the biologics industry where process and product development can be seen as one and the same. We believe, therefore, that the model grossly underestimates the importance of process development for the stent industry. Disruption While a radical change in the technology is unlikely in the short term, over the medium-to-long term, a drastic decrease in invasiveness would be disruptive to current players. An example of this would be the advent of cholesterol plaque-dissolving drugs. The main reason such a disruption will have such a drastic impact on the industry is because it will destroy the value of the current players’ assets: The network of doctors that these companies have invested in would be useless because one would no longer target surgeons but general practitioners. The learning curve effects/manufacturing expertise of the current players will no longer be useful and thus one of the key barriers to entry will be eliminated. The investment in stent R&D will no longer be relevant in the drug sector. New Entrants The landscape of the stent industry could change dramatically if other firms with capital decided to aggressively enter the market. One possibility is pharmaceutical companies. Though stents are not a drug, there is a high degree of overlap with respect to hospital, doctor, and insurance company relationships. The most likely entrants into this market would be the current pharmaceutical players with large distribution channels. In the current state of the world this would include: Pfizer, Eli Lilly, and Astra Zeneca. However, while this scenario is possible, we don’t feel it is very likely, because of the fundamental difference in competencies between drug companies and medical device companies—drug companies have no device manufacturing experience, and their R&D expertise is fundamentally much different. More plausible is the entrance of another medical device company, since marginalized during the shakeout phase. These firms not only have the relationships required to play in the stent industry, but also the manufacturing/sourcing expertise needed to make a high quality, profitable medical device. A Strategy for Boston Scientific Going Forward Based on our qualitative assessment of the industry and the quantitative results of the model, we have outlined a set of actionable items for Boston Scientific’s strategy over the next 5 years. We strongly believe that the industry will not face a disruption over this time horizon. 1. Strive to maintain price. As always, the dominant strategy (as predicted by the model) is to maintain a high price, conservative market share strategy. Given the unique dynamics of this industry, we believe this is possible. This is a relatively price inelastic market associated with the classic principal-agent problem, and product quality is the prime concern. It is very likely that the prices for coronary stents will be governed by health maintenance organization reimbursement policies, but we do not foresee a steep drop in prices in the absence of a price competitive game. Prices can be publicized at medical conferences and through third party websites (e.g. FAQ section of the American Heart Association website). Already, the industry seems to be moving towards a product quality-based game with head-to-head clinical trials underway; the recent REALITY clinical trial sponsored by J&J-sponsored was a randomized, international trial directly comparing the efficacy of Cypher versus Taxus stents. 2. Invest in process development. Currently, all players spend about 3% of their revenues on process development. Like the biologics industry, process + Revenues development is almost, if not more, important than product development. How the coating is synthesized, the method of attachment of + Process Development Units Inserted coating to the stent, the process of drug loading, + and the environmental conditions during manufacture will all affect the consistency and quality of the product. Quality is a key attribute + Product Consistency and Quality Surgeon Confidence + for a product such as this where failure will lead to revision surgeries, patient distress, and possibly physician Product Reliability + malpractice lawsuits. Surgeons justifiably want a tried and tested product. The 2004 withdrawal of Boston Scientific stents, and the subsequent drop of market share, is a direct manifestation of the importance of process development in this industry. The learning curve is not important from a cost point of view but rather from a product quality standpoint. The reinforcing loop shown stresses the importance of process development. We recommend that Boston Scientific continues to invest in its manufacturing process; even a 5% spend on process development is well justified. 3. Match the competition on product development spend. As explained in the previous section and predicted by the model, there is high product functionality spillover associated with stents. The benefits of high product development spend will not be enjoyed by the originator for long; products can be reverse engineered with relative ease. Boston Scientific should continue to match the industry average on product R&D; currently the industry spends approximately 10-13% of revenues. 4. Continue to build complementary assets. a. Match industry average on marketing spend. Marketing in this industry raises product awareness and the size of the overall pie. The systems dynamics model also predicts a sharp drop in earnings for both players even when only one company reduces its marketing spend. Boston Scientific must continue to invest in marketing to grow the market as a whole. b. Reinforce and expand physician relationships. As mentioned above, physicians are the decision makers, but not the payers. It is imperative that Boston Scientific continue to expand its loyal physician base and recruit established surgeons to champion its product. APPENDIX Exhibit A: Overview of consolidations in the stent industry Acquirer Target Date Amount Johnson & Johnson Guidant 12/16/2004 $23,900 million Johnson & Johnson Tibotec-Virco 3/22/2002 $320 million Medtronic Spinal Dynamics 12/31/2002 $270 million Medtronic VidaMed 6/18/2002 $252 million Abbott Laboratories Hokuriku Seiyaku 4/22/2002 $252 million Abbott Laboratories Knoll AG 12/15/2000 $6,500 million Medtronic MiniMed 5/30/2001 $3,247 million Johnson & Johnson Inverness Med Diab. 5/23/2001 $1,300 million Medtronic Arterial Vascular Eng. 1/28/1999 $3,666 million Medtronic Sofamor Danek Grp 1/27/1999 $3,569 million Medtronic Xomed Surgical Prod. 11/5/1999 $815 million Guidant Sulzer Med-Electro. 2/1/1999 $810 million Johnson & Johnson Depuy 11/5/1998 $3,740 million Boston Scientific Schneider Worldw. 9/10/1998 $2,100 million Boston Scientific Target Therapeutics 4/8/1997 $1,181 million Johnson & Johnson Cordis Corp 2/23/1996 $1,795 million Abbot Labs MediSense 8/07/1996 $802 million Boston Scientific Heart Technology 1/02/1996 $498 million Boston Scientific Meadox Medicals 11/17/1995 $441 million Boston Scientific SciMed Life Sys 2/24/1995 $897 million Exhibit B: Forces analysis Exhibit C: Value chain in the stent industry BMS – Bare metal stent Exhibit D: Explanation of systems dynamics model variables Input Value Rationale Industry Size and Market Demand Initial size of relevant population 38.4 Million We estimated the relevant size as those in the 45 -74 age group with People hypertension/high blood pressure Population Growth rate 5% Initial industry maturity Takeoff It is in process of shaking out the minor players; 2 dominant players have emerged Strength of word of mouth Moderate While it is higher for the doctors, we estimate it to be much less relevant for the patients Impact of marketing on adoption High Marketing is geared towards surgeons—relationships important Sensitivity of industry demand to price Low Competition is on quality and there is a principle-agent issue Product durability Non-durable Stent remains inside patient for ~5 years but modeled as non-durable to avoid the “durable goods crash” Customer Preferences—Sensitivity to: Product functionality High Health related product Marketing High Doctors purchase based on relationships/industry trade/etc Availability of comp. goods Low Does not rely on other goods (normally sold as a package with the catheter, balloon, etc.) Compatibility with others Low There are no other products Product Availability High You want it to be available when you need it Price Low Purchasers (surgeons) aren’t final consumers Initial price $2,350 Represents current price in market (Boston Globe, 1/31/2005) Unit Direct Costs $705 Assume 70% margin Fraction of direct costs that are variable 50% Assumption based on literature Max level product functionality 9/10 Assumption Productivity of innovative effort 5/10 Assumption Functionality spillovers? 8/10 Assumption Spillover time 1 year Assumption Lifetime of capital plant 10 years Assumption Learning curve strength High Experience spillovers Low It is difficult to imitate process improvements Spillover time 1 year Assumption Technology Product Process Complementary Goods -- Assumption: Catheter to deliver comes with Stent, therefore no Comp. goods Price NA Normal margin on complements NA How many complements do consumers NA require per unit Time for complementors to enter or NA expand capacity Time to produce complementary goods NA (years) Average useful life complementary goods NA Sensitivity of complement producers to NA expected profit Competitor Strategy Competitor price level relative to your’s Neutral Competitor target market share 60% Competitor share strategy Aggressive Does competitor embrace your standard? Yes % costs Product development 10% Source: Boston Scientific 10-K (R&D) Process development 3% Source: Boston Scientific 10-K (PPE Investment) Marketing 31% Source: Boston Scientific 10-K (PPE Investment) Complementors NA Exhibit E: Industry Player’s Spend on R&D/ SG&A Exhibit F: Sample results from the Industry Flight Simulator Model