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Executive summary

By early 1988, Augustine Medical executives were actively engaged in finalizing and marketing the program for the patient warming system named Bair Hugger Patient Warming System. The principal question yet to be resolved was how to price this system. Several considerations are required in terms of organizational objectives, demand for the product, customer value perception, buyer price sensitivity, the price of competitive offering, and direct variable costs. The company has two alternatives to price this system, either the skimming pricing strategy or the penetration pricing strategy.

The Bair Hugger system, which consist of a heater/blower unit and a separate inflatable plastic/paper blanket, is an air-circulation product and provides hypothermia patients surface warming. Although using the skimming pricing strategy has greater return in the short run, the danger is the company can not have a greater market share as well as a long run profit. Also, this market is price-sensitive to alternative methods. On the other hand, since the demand is known, the estimate of the total potential market for this system is about 2737 units, and 1000 units of blankets for each blower unit per year, and there are many substitutes existing, we strongly recommend that the company should employ penetration pricing strategy to market this system. In conclusion, the company can get into the market quickly and gain favorable market shares as soon as possible if it offers a low-priced blower unit. Also, the company could have long-term profits by selling lots of blankets only if they have greater market shares.

Problem Definition

In July 1987, Augustine Medical was incorporated as a Minnesota corporation to develop and market products for hospital operating rooms and postoperative recovery rooms. One of two products the company planned to produce and sell was the Bair Hugger Patient Warming System designed to treat postoperative hypothermia in the recovery room. Postoperative hypothermia (a condition defined as a body temperature of less than 36 degrees Centigrade or 96 degrees Fahrenheit) occurs in 60-80 percent of all postoperative patients.

Many competing technologies are available for the prevention and treatment of hypothermia. These technologies generally fall into one of two broad types of patient warming: surface warming or internal warming. The Bair Hugger system, which consist of a heater/blower unit and a separate inflatable plastic/paper blanket, is an air-circulation product and provides hypothermia patients surface warming. The warming time per patient is about two hours. The plastic cover was patented in 1986; there is no patent protection for the heater/blower unit.

The central issue at this time was the determination of the list price to hospitals for the heater/blower unit and the plastic blanket. The price set for the Bair Hugger Patient Warming System would influence the rate at which prospective buyers would purchase the system since the market was price-sensitive to alternative methods. Also, price and volume together would influence the cash flow position of the company. Before the company prices this system, several considerations are required in terms of organizational objectives, demand for the product, customer value perception and buyer price sensitivity, the price of competitive offering, and direct variable costs.

The estimate of total potential market for heater/blower unit is 2737 units and 2737000 units for blankets (see exhibit 1). The direct cost of the heater/blower unit would be $380 and $0.85 per blanket. The initial investment, $500,000, for this system would cover the fixed cost of the company during first year of operation. Based on this basic information and other considerations, the company has to determine its pricing strategy for both products. There are two alternatives for this company.

Statement of Alternatives

Alternative A: Skimming pricing strategy.

Alternative B: Penetration pricing strategy.

Analysis of Alternative

Alternative A: The company could employ skimming pricing strategy and price heater/blower unit and blanket by $4000 and $20 respectively.

Many competing technologies are available for the prevention and treatment of hypothermia. These technologies generally fall into one of two broad types of patient warming: surface warming or internal warming. A variety of competitive products includes warmed hospital blankets, water-circulating blankets, reflective thermal drapes, and air-circulating blankets and mattresses. Their comparison in terms of product value and annual cost show in exhibit 1.

There are three reasons to support the company to employ the skimming pricing strategy. First, the Bair Hugger system, an air-circulating product, consists of a heater/blower unit and a separate inflatable plastic blanket. The plastic cover was patented in 1986, which is the chief competitive advantage to prevent The Bair Hugger system from losing to competition. Even though there is no patent protection for the heater/blower unit, the heater/blower unit can not work without the blanket. In the other words, they are complementary products.

Second, there is a realistic perceived value in this system by comparing with other competitive products (see exhibit 2). The advantages of warmed-air technology are that it is safe, lightweight, and theoretically more effective than warmed hospital blankets or water-circulating blankets. Also, based on interviews with physicians and nurses, respondents felt that the Bair Hugger Patient Warming System would speed recovery for postoperative patients. Since this technology is not in common use in the Unite States and no product is available in the current market, the target markets are not familiar with these kind of products. Therefore, the company can position and price this system as a premium quality product.

Third, skimming pricing strategy can help the company to generate funds quickly to recover its investment or finance other development efforts. From exhibit 1, we know the total potential market demand for the heater/blower unit is 2737 units. Since the heater/blower unit is a durable product and the total demand for heater/blower units is known, the future development of this market has been constrained. Under this situation, the company may plan an early withdrawal from the market by employing the skimming price strategy. This involves setting a high price and engaging in only