Medtronic MiniMed in the Insulin Pump Industry

Medtronic MiniMed in the I n s u l i n P u m p I n d u s t r y: T h e P o w e r a n d o f C o m p l e m e n t a r y R e i n f o r c i n g L o o p s As s e t s Table of Contents 1 Background, ...................................................................................................................... 1 2 The Insulin Pump Industry .............................................................................................. 1 3 Technological Development in the Industry – S-curves............................................. 2 4 Value Chain and Value Capture .................................................................................... 4 5 Five Forces Analysis........................................................................................................ 6 6 Complementary Assets and Uniqueness ..................................................................... 7 7 System Dynamics of the Industry – Reinforcing Loops ............................................. 9 8 System Dynamics Simulations..................................................................................... 12 9 Conclusion....................................................................................................................... 14 10 System Dynamics Simulation Exhibits........................................................................ 16 In this paper we present a thorough analysis of the US insulin pump industry and explore how one firm, Medtronic MiniMed, has been able to achieve and retain dominance. 1 Background1, 2 About 1.1 million people in the US suffer from Type I, or insulin-dependent diabetes, a chronic disease requiring regular insulin replacement in order to ensure survival.3 An additional 10 million people suffer from Type II, or non-insulin dependent, diabetes. Recent research suggests that about 48% of patients with Type II could benefit from supplementary insulin, and 25% of the 48% actually inject insulin. The total market of insulin users is therefore about 2.3 million people. The total insulin-injecting population is growing 1-2% a year. Insulin delivery is currently achieved using three distinct technologies. First and second are syringes and insulin pens, which require a patient to self-dose and self-inject boluses of insulin several times a day. The third technology is insulin pumps, computerized devices that can help the patient calculate insulin doses4 and which provide continuous release of insulin through a catheter placed under the patient’s skin. Soon, patients will have access to non-invasive technologies such as oral, inhaled or transdermal formulations of insulin, and research efforts are ongoing to find a vaccine or cure for diabetes. 2 The Insulin Pump Industry The insulin pump market includes both a durable good and a consumables component. The pump itself sells for about $5,000 and lasts for 5 years; consumables cost the user about $6 per day. Currently, the vast majority of the insulin-injecting market still uses substitute products with a longer history in the market (syringes or insulin pens). Only about 10% of Type I diabetics (~100,000 people) use infusion pumps, and almost no Type II diabetics use them.5 This is changing as people start to better understand the benefits of tight insulin control, and gain comfort and familiarity with being connected to an insulin pump 24 hours per day (Figure 1, below). Growth rate in the insulin pump industry is about 9% per year, compared to about 2% in the overall diabetic population.6 1 FIGURE 1: FEATURE TRADE-OFFS Comfort/ Familiarity Syringes/ Pens Insulin Pumps As pump manufacturers educate patients and physicians & overcome lack of familiarity/comfort with the new technology, the pump market will take over much more of the delivery market. Disease control 3 Technological Development in the Industry – S-curves As hinted at in the industry background, the insulin delivery industry has been subject to significant technological change over its history, resulting in significant improvements in performance as measured by the control of blood sugar levels. When insulin was first brought to market as a therapy, it was injected using standard syringes, with patients calculating their dose and administering it via bolus injection. Incremental innovations to suit the needs of diabetics injecting insulin resulted in the insulin pen, a simple device that looks and functions like a syringe containing its own vial of insulin and which simplifies dose measuring and injection. The potential for performance improvement on this model is limited, however, by diabetics’ need for a basal dose, a small amount of insulin to be delivered constantly throughout the day and night in addition to boluses at mealtimes. Although research has produced varieties of long-acting insulin to be injected once daily in addition to meal boluses in order to provide a basal dose, the uptake of long-acting insulin cannot be tailored to the needs of individual patients. Insulin pumps, though the initial models were large and obtrusive, offered immediate improvements in terms of blood sugar control (see Figure 2). Pumps consist of an insulin reservoir controlled by a small computer, connected to the patient through a catheter inserted under the skin. Pumps are designed to deliver insulin continuously after being programmed with the patient’s varying insulin needs throughout the day7, and deliver boluses on demand based on inputs about the amount of carbohydrate intake and current blood sugar levels. Incremental innovations have reduced the size of the 2 unit, increased the convenience and control of dosing, and promise to eventually have the pump selfregulate, essentially working like an artificial pancreas. The Present FIGURE 2: INSULIN DELIVERY MARKET S-CURVES Tight regulation Fully selfregulating, unobtrusive Performance (control of blood sugar levels) Coupled to glucometer Flex pen Syringes Pumps requiring manual input, large & inconvenient Genetic engineering Oral, Patches, Inhalation Islet cell transplants Vaccine Inadequate regulation Time Manual insulin injection Self-regulating insulin pumps; “artificial pancreas” Noninvasive insulin delivery “Cure” Prevention Beyond delivery Supported by innovations in the insulin being delivered (e.g. fastacting, recombinant, “smart cells”) Up to this point, the only way to deliver insulin has been by subcutaneous injection, but new delivery mechanisms – possible discontinuous innovations – are planned for launch in the near future that 3 will allow for oral, inhaled, and transdermal delivery of insulin. Based on completely different technologies, these routes of administration could eventually allow for blood sugar control superior to that of syringes, in a manner that is less invasive and therefore likely more attractive to many patients. Because pills, inhalants and patches are pharmaceutical products rather than medical devices, their value chains are very different from those of pumps, pens or syringes, requiring very different skills and competencies, which would make it very hard for current delivery companies to bridge the discontinuity if these technologies ended up gaining wide acceptance. Broadly applicable transdermal technologies, however, could be incorporated into future generations of pumps to provide through-the-skin instead of under-the-skin delivery. Pump manufacturers could be well situated to take advantage of transdermal delivery by making less invasive pumps, or from another perspective, programmable patches. Finally, it is obvious that the natural technological limit of all these delivery methods is that they only manage the disease; no amount of injected insulin can cure diabetes. The need for any sort of insulin delivery would be obviated by the development of a vaccine or a cure for diabetes – both subjects of significant research efforts. Unfortunately for diabetics, but fortunately for the delivery companies, all current efforts still face major hurdles and years of development before they will be commercialized. As alluded to above, it should be noted that innovations in the insulin industry have important effects on the insulin pump industry. Current R&D efforts are developing self-regulating insulin that is absorbed into the blood stream in proportion to the amount of blood glucose that is present.8 A selfregulating insulin could require a single daily injection to cover both basal and bolus needs. This would overcome many of the drawbacks of multiple daily injections and make syringe or pen delivery more attractive than pumps. 4 Value Chain and Value Capture Diabetes pump companies create significant value for patients, physicians, insulin manufacturers, and insurance payers. They free patients from multiple daily insulin injections, and create value for patients and physicians by providing better controlled delivery of insulin (and therefore regulating the disease better) than is possible through bolus injections via pen or syringe. They create value for insulin manufacturers by providing a better mode of delivery than pens or syringes – one that helps make sure patients take their medicine regularly and on time – thereby helping to deal with compliance issues that can reduce insulin use. Finally, by providing better regulation of the disease, they create value for insurance payers by reducing the costs associated with the complications of diabetes. The typical pump manufacturer’s business model for capturing the value they create is to fully integrate into the value chain by designing, manufacturing, marketing and distributing both durable 4 pumps and consumable supplies directly to patients. Accordingly, business models are not focused on a single element of the value chain (Figure 3). FIGURE 3: VALUE CHAIN DIAGRAM Support Activities Small to medium-sized diversified companies FIRM INFRASTRUCTURE Prior employee training necessary HR MANAGEMENT R&D in-house TECHNOLOGY DEVELOPMENT High quality human capital Margin Application knowledge Centralized PROCUREMENT INBOUND LOGISTICS Suppliers -components -Raw materials -Plastic -Metal OPERATIONS Manufacturing and Assembly -Outsource -In-house -Skilled labor OUTBOUND LOGISTICS Distribution: -Customer buy direct -Own distribution network MARKETING AND SALES -In-house -Brand building -Co-branding -Reputation -Sales reps -Selective advertising -Physician relationships SERVICES - Patients involved - Physician relationships Margin Primary Activities Innovation Operational Efficiencies Customer Targeting Front end Back end Reputation for quality and reliability Brand Close customer relationships The key elements in terms of interfacing with customers and making an impression on them are sales and marketing, and distribution. Pumps are distributed directly to patients, mediated by a pump company sales rep who provides information and intensive support.9 This allows the company to carefully control the customer’s experience with the product, and prevents the companies from having to share profits with a middleman such as a pharmacy or other distributor. In addition, a sales and distribution network able to provide this incredibly high-touch service reliably and efficiently for a relatively small, widely dispersed pool of patients (only about 30,000 pumps get sold annually over a widespread geography) is difficult to set up and sustain, and therefore represents an important, difficult-to-replicate resource for the firms that have it, with MiniMed being the best-equipped. 5 5 Five Forces Analysis The insulin pump industry is an attractive industry with high margins. The five-forces analysis in Figure 4 helps demonstrate why: high barriers to entry, low supplier power and very low rivalry. FIGURE 4: FIVE FORCES ANALYSIS BTE: High • FDA approval • Brand/trust • Relationships w/ prescribers & HMOs for reimbursement & dist. • Sales/service infrastructure Supplier Power: Low • Commodity components • Low risk of forward integration Rivalry: V. Low • Compete on service & relationships • Low product differentiation Buyer Power: High • The market grows and shrinks according to Medicare and insurance reimbursement policies, but policies to date have been favorable • Individuals have little power, though • High switching costs; viable alternatives Substitutes: High • Most people use syringes or pens • Alternatives are cheaper & more established The two dark spots in the five forces analysis are high buyer power and high threat of substitutes. Insulin pump buyers are typically Medicare and private insurers; because of the expense, pumps are less frequently purchased out of pocket. Fortunately for pump manufacturers, buyers have generally not exercised their power, and most policy changes regarding reimbursement have been favorable to the pump industry. For instance, Medicare recently began reimbursements for pumps at a rate of $5,000 (down from the nominal list price of $6000). In addition, although most insulin-injectors currently use syringes or pens, widespread reimbursement represents an important source of change and growth in the industry as pump manufacturers work to convert non-pump users. Medtronic MiniMed remains the dominant player in the market, with 80% market share and the strongest brand and reputation.10 As of 2001, MiniMed enjoyed gross margins of 67%.11 Its position and profits are protected by the industry’s high barriers to entry, but are threatened by a variety of large potential entrants with resources that might enable them to successfully overcome these barriers. Three firms have entered in the past 5 years (bringing the total number of firms in the market to five), and more may be expected to enter in the next few years. 6 6 Complementary Assets and Uniqueness Figure 5 shows the relative positions of the five insulin pump manufacturers in terms of complementary assets and uniqueness. FIGURE 5: COMPLEMENTARY ASSETS AND UNIQUENESS Complementary Assets Freely available Uniqueness Tightly held Easy to maintain Hard to maintain Deltec Disetronic Dana Animas Medtronic Compared to other medical devices, insulin pumps are a relatively simple technology that is difficult to protect with IP, and have significant product spillovers that make it difficult for pump manufacturers to maintain uniqueness for any length of time. Therefore, uniqueness is much less important to competitiveness than complementary assets; uniqueness is conferred mainly by speed to market and less so by protected technology. The leading manufacturers do put significant energy into R&D to deliver a technologically superior product and add substance to marketing claims. This helps drive adoption as product functionality improves, but as we will discuss in the next section, spillovers create a balancing loop limiting the reinforcing effects of R&D (Figure 9). Thus, while uniqueness can be used as a niche strategy to the extent that there is some heterogeneity of demand – for example, Animas targets diabetic children with its pump’s waterproof design and ability to deliver very small and precise doses of insulin – it is not a strategy well suited to helping gain wide adoption in the general market. Competitiveness in this industry is mainly determined by complementary assets such as customer service, branding, reputation, distribution channels, and relationships with physicians and insurers. As noted above, firms have forward-integrated into the value chain by selling pumps and consumables directly to patients. Knowing that the administrative details of managing prescriptions and insurance reimbursements can be as stressful for patients as managing the disease itself, firms stress customer service and total quality of life more than they do innovative features. Here, the pump company’s knowledge of state-specific insurance regulations constitutes a complementary asset. Once a firm acquires a customer, lock-in is facilitated by automatically shipping refills of consumables and handling insurance reimbursement issues seamlessly for the patient. Manufacturers provide generous warranties in order to keep customers happy for repeat business and word-of-mouth referrals to other interested diabetics. Other features of enhanced customer service are 24x7 availability of pump representatives, education/training 7 programs for current customers as well as the general diabetic population, provision of loaner pumps for when traveling, and upgrade programs. Branding is another complementary asset, achieved largely through advertisements in Diabetes magazines, websites and publications of the American Diabetes Association, as well as through relationships with physicians and education and training sessions. These complementary assets all enable customer lock-in despite common product technology. Again, the next section will show how these complementary assets create a reinforcing loop, building word of mouth and market share that help expand the revenues and therefore the amount of money that the company can plow back into marketing to strengthen the brand (Figure 8). Changes in the industry and its environment will affect the way these complementary assets play in the future. For instance, a key service that reps currently provide is helping patients who lack insurance figure out how to finance their pumps. As insurance, Medicare and Medicaid coverage become more available, this will be less important. It is not surprising that the most successful companies have the most tightly bound complementary assets, while those companies that cannot rely on brand and reputation invest more heavily in unique features. Medtronic MiniMed is the 800 pound gorilla in this industry with top market share, garnered through the most highly developed sales and service force, and a strong and trusted brand. However, MiniMed does not necessarily have the most technologically developed products. Disetronic, a company with less tightly held complementary assets, is ambitiously pursuing uniqueness by developing DiaPort, a percutaneous insulin delivery system that will more closely simulate first pass insulin delivery and could result in quicker, more efficient insulin absorption. (DiaPort is already available in Europe, though not in the US.) It is unlikely that the overall dynamics of how uniqueness and complementary assets contribute to companies’ success will change dramatically in the medium-term. Innovations may give certain firms a slight advantage in uniqueness despite relatively weak complementary assets, but as competitors develop similar features, complementary assets will continue to be the key to success. As the market grows and small players gain traction, it becomes more likely that a competitor will eventually be able to establish a solid brand and a sales and service infrastructure to compete with that of MiniMed. This would enable the competitor to erode some of MiniMed’s market share. Below, in section 8, we use a system dynamics model to explore how these scenarios could play out. 8 7 System Dynamics of the Industry – Reinforcing Loops The forces at work on this industry mean change is likely in store, but this will probably not be catastrophic for the incumbent, MiniMed. When this market was less mature, with no reimbursement and little patient acceptance, it was very small. The reinforcing loops in the industry mean that the market is expanding very quickly, making the industry bigger and more attractive. Fortunately for MiniMed, there are prominent firm-level loops that give it an advantage that will be hard for competitors to replicate. There are two key reinforcing loops in the industry which serve to expand the size of the market. Figure 6 shows how increased sales allows companies to spend more on educating payers in the economic and medical benefits of the pump, increasing reimbursement and therefore affordability, overcoming financial barriers to adoption. This loop has played an important role historically, with the 1999 Medicare decision to cover the pump being an enormous boost to the industry. Going forward, we expect the second loop (Figure 7) to be especially important, as increased revenues allow companies to spend more on marketing to overcome patients’ psychological barriers to pump use, currently the primary hurdle for adoption. In this loop, clinical data documenting the importance of tight control contributes to payers’ and patients’ understanding of the medical and economic benefits of the pump as well. FIGURE 6: DRIVER OF MARKET SIZE: AVAILABILITY OF REIMBURSEMENT. Before reimbursement from Medicare and private insurance became widespread and generous, affordability of pumps and supplies significantly limited the size of the market. Therefore, one of the primary historical drivers of market expansion was increasing availability of reimbursement. By lobbying payers and politicians, pump manufacturers grew the market without having to lower price. Availability of + reimbursement Clinical research + Payors understand economic & medical benefits + + Affordability R Lobbying spend + Sales & Revenue + 9 FIGURE 7: DRIVER OF MARKET SIZE: PSYCHOLOGICAL ACCEPTANCE. Currently, potential users’ psychological acceptance of being tethered to a pump is the most significant barrier to expanding the pump market. Therefore, a critical driver to expanding the market is disseminating information about both medical benefits and improved convenience compared to substitutes (multiple daily injections). + Psychological + acceptance Clinical research ­ +Patients understand R R + medical benefits Sales "More convenient" "Better disease + management" Patients understand lifestyle with pump + + Marketing spend These two loops combine to increase the size of the market significantly, with the current annual growth rate of the patient base of 9% expected to increase.12 This growth rate and the substantial margins being earned by the firms within the industry (on the order of 60-70%)13 is likely to attract entrants over the next years, despite high barriers to entry. However, both the chance of new entry and its impact on rivalry is mitigated by the fact that this is a durable goods industry with a lot of room to grow, and with generous reimbursement. The fact that this is a durable goods industry creates an interesting competitive dynamic. Reimbursement covers a pump roughly every 5 years. Therefore, once a pump has been purchased, switching is unlikely for a 5-year period (though switching costs are relatively low when the 5-year period is up). This means that, for a new firm trying to enter the market, only about 20% of current pump users are potential buyers in any given year. Incumbent firms enjoy the advantage of drawing subscription revenue from their installed base in the form of consumables, providing cash to feed into their reinforcing loops. Although the number of patients is growing by a healthy 9% per year, this translates to only 10,000 new patients per year off a population base of 100,000. Therefore, this industry, which already contains 5 firms, is currently selling to about 30,000 possible annual purchasers. Firms already in the industry have, as we will soon see, competitive advantages resulting from reinforcing loops, and while this industry doesn’t have huge economies of scale/scope or learning curves (mostly, these would be in terms of service provision), a new entrant must consider how to achieve minimum efficient scale and traverse learning curves off what is bound to be a very low volume of sales. 10 Also, despite significant recent entry, competition in the insulin pump industry remains characterized by very soft rivalry. This is not likely to change in the near future for two key reasons. First, the fact that pumps currently only have about 5% of the potential market and have a strong value proposition for much of the remaining 95% means that it is much more productive to expend resources towards moving people currently using substitute products to the pump (increase the size of the pie), than to fight over those patients already on the pump (increase your share of the existing pie). Second, high technological spillovers, lack of defensible IP, and temptation to sell the pump cheaply to collect revenue from consumables might at first suggest that price competition will become more prevalent when the market becomes saturated. However, the fact that reimbursement levels are set at $5,000, and many patients don’t experience the cost of the pump, means that there is little reason to lower cost. (Figure 8 shows the effects of insurance reimbursement on the market to be equivalent to a subsidy.) Thus, even when the market becomes more saturated, it is likely that rivalry will remain soft and firms will continue to compete more on complementary assets than price. reimbursement acts as a subsidy for the pumps and supplies. As expected, as reimbursement becomes more widespread and generous, the market equilibrium quantity increases significantly. Because pump manufacturers lobby payers and politicians to make reimbursement available with generous terms, they have increased demand without cutting price S P S’ Insurance Reimbursement FIGURE 8: EFFECTS OF INSURANCE REIMBURSEMENT ON THE MARKET. Insurance D Q Increase in demand In addition to the two industry loops, there are also two key firm-level loops that affect the market share of individual firms. These loops help explain why incumbents, especially MiniMed, have such a strong position in this very attractive industry. The first loop (Figure 8) is marketing spend, which contributes to brand awareness, which is a key factor in patients’ choice of which company’s product to buy – greater market share also means greater word of mouth, which further increases brand awareness. R&D spend (Figure 9) is also important, but spillovers create the balancing loop that causes uniqueness to be less important than complementary assets in this industry. 11 FIGURE 8: DRIVER OF COMPETITIVE DYNAMICS: BRAND BUILDING. Given the literal “life and death” nature of insulin pumps, patients’ and doctors’ trust in the brand is vital for a firm’s success. Word of mouth is powerful in the small community of diabetics who require insulin. Market share vs. competitors + Word of mouth + + Revenues Brand Awareness + R + R Marketing Budget + + Marketing FIGURE 9: DRIVER OF COMPETITIVE DYNAMICS: SPILLOVER. Firms create value through R&D and product innovation, but uniqueness is hard to maintain because of product spillovers. Therefore, firms invest in R&D mostly to boost the complementary asset of brand equity; those who do not invest will be recognized as perpetual followers and will lose brand equity. Sales. + + R&D spend Uniqueness Competitors' functionality + + R B + Product innovation + Product functionality +Spillover 8 System Dynamics Simulations Given the reinforcing loops surrounding marketing and brand acceptance that are at work in this industry, it would appear difficult for an entrant to gain substantial ground against MiniMed, the wellentrenched incumbent. Nevertheless, three entrants have appeared over the last several years, and even more are expected due to the above-average profits and potential to expand the pie in this nascent market. Our goal in this section of the paper is to evaluate the strategies of an entrant intent on toppling the market 12 leader. We evaluated the influence of market share strategy, pricing and marketing expenses through a system dynamics analysis using the Industry Evolution Simulator to how David can slay Goliath. In our model, MiniMed pursues an aggressive market share strategy, targeting 80% of the market, with a neutral pricing strategy. R&D expenses are high at 9% of revenues, and marketing expenses are 15% with a minimum annual spend of $500,000. The competitor had the same parameters, except as varied in the scenarios. We sampled market share, price per unit and cumulative profit at 5, 10 and 15 years. (The full set of industry inputs used for this model are shown in Exhibit A.) Parameters Pricing Market share strategy Target market share R&D Process development Marketing Minimum marketing spend MiniMed neutral aggressive 0.8 9% 2% 15% 500k Competitor vary vary 0.8 9% 2% vary vary Considerations For a number of reasons, the Industry Evolution Simulator is an imperfect model of the insulin pump industry. First, due to reimbursement from Medicare and private insurers, pump prices are not expected to fall drastically; in the simulation, prices plummet to near $1000 per unit within the first year. Second, the model does not account for the subscription revenue that pump manufacturers reap from sales of consumables, amounting to about $6 per user per day. Third, we were not able to account for significant hurdles to penetration such as users'psychological acceptance, so growth rates are faster in the model than what we would expect in reality. Despite these considerations, we believe that the model provides some valuable insight into the dynamics of competition in the industry. Results 1. Varying Market Share Strategy (Exhibit B1) If the competitor pursues an aggressive or fixed strategy, both companies compete away profits. If the competitor' s market share strategy is opportunistic or conservative, MiniMed expends its profits and the competitor can benefit. This makes sense, since the competitor adjusts its strategy better to the market demand. Note that the high year 5 profit and loss in scenario B are due to pump sales at high initial prices ($5000) before dropping due to competition. 13 Takeaway: With minimal network effects, companies should not sacrifice profits for share. Recognizing this, we had the competitor use an opportunistic market share strategy for all subsequent simulations. In a fixed-price world, this also suggests that a low-share, niche approach can be profitable. 2. Varying Marketing Expenses (Exhibit B2) An increase of marketing expenses yields an advantage for the competitor at 20% and 35% of revenue. (At 25% of revenue MiniMed has a short-term advantage, which is inconsistent with the 20% and 35% investments; this is likely a coincidental effect of precipitous price drops combined with pumps’ five year durability.) All increases are short-term, and the increase at 35% is most significant for the competitor, resulting in almost $1B in profits for the competitor at year 5. If the competitor reduces its marketing spend, both companies end up with low profits, but the competitor is able to reap the benefits of marketing spillovers from MiniMed’s investments without making its own investments. Takeaway: Although there are spillovers from marketing, the effect of growing the pie makes it worth it for both companies to invest generously. 3. Varying Pricing and Marketing (Exhibit B3) While a high-price strategy pays off for the competitor in the long-term and hurts MiniMed, low prices lead to losses for both companies, especially the competitor. MiniMed gets hurt in both cases because of its aggressive market share strategy (although in reality, unlike in the model, MiniMed’s aggressiveness would likely result in increased marketing expenditure, not decreased prices). High or very high prices coupled with increased marketing spend lead to the highest payoffs for both players. Takeaway: As expected in a brand-reliant industry with few network effects, a high-price competitor is more formidable than a low-price competitor. Overall Simulation Conclusions From our analysis, it is clear that marketing is crucial. The optimal strategies for both MiniMed and the entrant are to invest heavily in marketing and keep prices high. Although MiniMed may be an aggressive incumbent, it should not cut price to maintain share. 9 Conclusion In this paper we have explored the insulin pump industry in depth. We compared insulin pumps to substitutes (syringes and pens) in terms of comfort/familiarity and disease control, and charted the technology evolution and S-curves in the management of insulin-dependent diabetes. Then we examined the insulin pump value chain and noted that companies are fully integrated from manufacturing to directto-consumer sales in order to capture all the value created. A five forces analysis shows this to be an 14 attractive industry with high barriers to entry, low supplier power and soft rivalry, in which buyers are not exercising their power, and consumption of substitutes marks the greatest possibility for expansion. In gauging the importance of complementary assets and uniqueness, we discovered that spillovers make uniqueness hard to maintain, and that brand equity and high-touch service are the complementary assets that largely form the basis of competition. The system dynamics analysis revealed reinforcing loops around education and marketing that grow the industry as a whole, and a substantial marketing loop that reinforces the brand equity asset. Finally, our system dynamics simulations confirmed the value of marketing and of maintaining high prices, and showed that MiniMed will not be immune to attack if competitors undermine the company’s complementary assets. In summary, there are changes taking place in the insulin delivery market that will vastly increase the size of the industry and attract entry over the next years. There is good reason to expect that MiniMed will remain dominant, but also that entrants might profit at small volumes and in certain niches. Indeed, the biggest threats to incumbents are likely from outside the pump industry, where discontinuous innovations in non-invasive insulin delivery, self-regulating insulin, or a cure will make pumps less attractive or even unnecessary. Due to soft rivalry resulting from generous reimbursement and the significant potential to increase the size of the pie, it appears that cooperation among all players to grow the market may be the most profitable approach. If pumps can be established as the dominant design for intensive insulin therapy, pump manufacturers may be able to extend the life of their industry in the face of these discontinuous innovations. 15 10 System Dynamics Simulation Exhibits EXHIBIT A: INPUTS TO INDUSTRY EVOLUTION SIMULATOR: INDUSTRY SETTINGS & MARKET DEMAND Initial Size of relevant population 2.2M or 200k Population Growth Rate 2% or 15% Initial industry maturity intermediate Word of mouth high Impact of marketing on adoption Medium Sensitivity of demand to price Low Product durability 6 years CUSTOMER PREFERENCES (sensitivity to:) Product functionality 0.3 Marketing 0.8 Available complementary goods 0 Compatibility with others 0 Product availability 1 Price -0.8 COMPETITOR (MEDTRONIC) STRATEGY Competitor price level relative to Neutral yours Competitor target market share Competitor share strategy Does competitor embrace your std % costs (unit direct costs/price?) Product development Process development Marketing Complementors PRODUCT Max level product functionality Productivity of innovative effort Functional spillovers Spillover time PROCESS Lifetime of capital plant Learning curve strength Experience spillovers Spillover time COMPLEMENTARY GOODS Price ($/complement) Normal margin on complements How many required/unit Time for complementors to enter/expand capacity Initial price ($/unit) Average useful life Sensitivity of complement producers to expected profits aggressive TECHNOLOGY No Initial Price 20% Unit direct costs, fraction of price 0.09 (9% Fraction of direct costs that are variable on R&D) 0.02 0.15 30% on SG&A N/A 50% 100 Medium yes 1 year 10 years Low no N/A N/A N/A N/A N/A N/A N/A $5,000 20% 50% 16 EXHIBIT B1: VARY MARKET SHARE STRATEGY Strategy 1: vary market share strategy a. Pursue same strategy as Minimed neutral pricing, aggressive mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.2 1.2 1.1 1.1 1.1 1.1 thousand -3.9 -3.7 -8 -8 -14 -14 million Conclusions: both companies lose b. Follow opportunistic strategy neutral pricing, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.4 1.1 1 1.1 1 1.1 thousand 174 -203 3 2.5 9.4 7.5 million short term advantage for competitor c. Follow conservative strategy neutral pricing, conserv mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.4 1.1 1 1.1 1 1.1 thousand 177 -203 3 2.5 9.4 7.5 million short term advantage for competitor d. Follow fixed strategy neutral pricing, fixed mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.2 1.2 1 1.1 1.1 1.1 thousand -3.9 -3.7 -8 -8 -14 -14 million identical to aggressive strategy both companies lose 17 EXHIBIT B2: VARY MARKETING EXPENSE Strategy 2: vary marketing strategy a. Increase marketing expense to 20% neutral pricing, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.4 1.1 1 1.1 1.1 1.1 thousand 321 246 3.1 3.9 9.7 10.1 million Conclusions: ST payoff for higher marketing expenses reduce profits cross-benefit for Minimed? b. Increase marketing expense to 25% neutral pricing, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.5 1.1 1.1 1.1 1.1 1.1 thousand 459 744 3.4 5.4 10.6 13.2 million (short term) advantage for Minimed comp overspends on makertg in long-run quality of marketing c. Increase marketing expense to 35% neutral pricing, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.8 1.2 1.2 1.2 1.3 1.1 thousand 947 1.9 4.6 9.2 14 21 million short term advantage for competitor d. Decrease marketing expense to 5% neutral pricing, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.2 1.1 0.9 1.1 0.9 1 thousand -1 1.6 0.125 8 2.9 million -1 do not underspend on marktg both companies lose e. Decrease marketing expense to 0% neutral pricing, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.2 1 0.9 1.1 0.9 1 thousand -2 -1.4 -1.3 -0.9 3.2 0.7 million do not underspend on marktg both companies lose f. Eliminate marketing (i.e. skip minimum marktg spending) neutral pricing, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.2 1 0.9 1.1 0.9 1 thousand 0.3 -1.3 3.3 -0.8 9.9 1.1 million do not underspend on marktg both companies lose but competitor saves some money! 18 EXHIBIT B3: VARY PRICING AND/OR MARKETING Strategy 3: vary pricing strategy or pricing+marketing strategy a. Increase prices to very high marketing 15%, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 2 1.2 1.4 1.2 1.4 1.2 thousand 8.5 2.5 27 10.6 59 25 million Conclusions: LT payoff for higher prices however moderate b. Decrease prices to very low marketing 15%, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 0.9 1 0.6 0.95 0.65 0.92 thousand -4 -23 -8.3 -46 -15 million -8.7 both lose c. Decrease prices to very low AND increase marketing to 35% marketing 35%, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.1 1 0.8 1 0.8 1 thousand -8 -2.1 -22 -3 -44 -4 million both lose marketing does not help competitor d. Increase prices to very high AND increase marketing to 35% marketing 35%, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 2.6 1.4 1.8 1.3 1.7 1.3 thousand 9.7 5 29.8 18 71.3 40.5 million competitor has higher profits e. Increase prices to very high AND decrease marketing to 5% marketing 5%, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.8 1.2 1.3 1.2 1.3 1.1 thousand 7.5 1.6 26 7.8 57 19 million competitor has higher profits although marktg is much lower f. Increase prices to very high AND eliminate marketing completely marketing 0%, opport mkt share, target m s: 0.8 "Comp" market share price per unit profit Minimed "Comp" Minimed "Comp" Minimed year 5 year 10 year 15 50% 50% 50% 50% 50% 50% 1.7 1.2 1.2 1.1 1.2 1.1 thousand 8.5 1.2 27 7 57 17 million competitor has higher profits although marktg is much lower 19