Launching a new generation e-phone
© 2004 by Stefan Scholtes (Cambridge)
LAUNCHING A NEW GENERATION E-PHONE*
Background
ePhone is preparing to launch an innovative mobile phone that the company has
developed over the past two years. The new model allows a far better integration of
web-based applications with traditional telecom services.
To prepare for the launch decision, Paul in the production department has been
working on a proposal for a production facility that will allow 5 Mio units to be
produced over the next 5 years. He estimates fixed costs of production to be on the
order of $ 60 Mio. Mary is in charge of the marketing side of the launch preparation.
From past experience with such high-tech products she estimates that demand will
be fairly price-inelastic and will allow ePhone to achieve a unit margin of $20 per
mobile phone. On the total demand side, however, she is less optimistic. Will there
be the critical mass of high-end customers in the market necessary for the new
technology to pick up in a big way? Is it really a good idea to launch the ePhone
now or should they defer the launch decision and first gather some more
information about the market?
ePhone is one of the most innovative firms in the industry and its marketing
department has considerable experience with launches of new high-tech products.
The marketing people at ePhone like to think in three scenarios: Success, Survival,
or Failure. Mary has put a lot of energy into projecting sales volumes for the two
scenarios from past data and the results of a preliminary customer survey. She
estimates that a market success will allow the company to sell the full capacity of 5
Mio units of the new phone worldwide, whilst a survival market will only demand 2
Mio units, dropping to an estimated 800,000 units in the case of failure. In the past
the company has on similar occasions introduced their product first in a national test
market before committing to the large expense necessary for an international
launch. The Netherlands have proved particularly useful in this respect. Mary
estimates that the cost of a Dutch test market, including setting up a small
production facility, would be $ 5 Mio. Her projections are that in a successful test
market they should be able to sell 150,000 units in the short amount of time for the
test. Sales will drop to a projected 60,000 units in a survival market and 24,000
units in a failed test market. She has commissioned a customer survey in the
Netherlands upon which she is able to estimates the probability of a successful test
market to be 40%, of a survival test market to be 50% and of a failure to be 10%. To
extend the test market results to better estimates of the international market, Mary
uses historical company data on the predictive power of test markets. The data
suggests that if the test market is successful, there will be a 60%, 30%, and 10%
chance of success, survival, and failure, respectively, in international market. If the
test market is a survival market, these probabilities will be 15%, 70%, and 15%,
respectively, and if the test market fails, the probabilities will be 10%, 30%, and
60%, respectively.
*
This case will be used as a basis for class discussion and is not an illustration of effective or ineffective
managerial decision-making.
Launching a new generation e-phone
© 2004 by Stefan Scholtes (Cambridge)
A) Mary feels intuitively that the company should postpone the international launch
and do a test market analysis first to learn more about the market. Can you help
Mary make a case for a pre-launch test?
B) In discussions with Paul, Mary reveals that her sales estimate in a successful
market is based on the assumption of a production capacity of 5 Mio. She
actually estimates that there will be about 2 Mio units excess demand in a
successful market that they will not be able to satisfy within the capacity
constraints. A closer look at the $ 60 Mio set-up costs for production shows that
about $ 10 Mio are fixed costs, independent of the size of the plant, and the
remaining $ 50 Mio are largely variable with the capacity of the plant. Paul
wonders whether it might be a good idea to produce a second proposal with an
increased capacity.
C) After his meeting with Mary, Paul kept on thinking about the level in demand
uncertainty that he had been unaware of. An alternative to cope with such
uncertainty might be to stage the project. If the company bought a parcel of land
close to the planned production site, then future expansion would be feasible.
The price for the parcel of land is about $5 Mio. An expansion takes 3 months
with another $10 Mio fixed costs, independently of the expansion capacity.
Variable costs of capacity are the same as before.
Mary believes that they will have a very good idea about the realised market
scenario some nine months after the launch. That would be a good time to
decide on expansion, which, if approved, will come on line after another three
months. Mary reminds Paul that the company may miss out on demand if they
start small; they typically realise about 20% of the overall demand in their first
year.
Can you help Paul to make a case for a staged launch?