Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian modified from the original by J Smith & M Klein

Information Rules Spring 98 2 Information Is A Commodity Subject to market conditions Usually has high creation costs Benefits from low marginal costs Threatened by further commoditization

Information Rules Spring 98 3 Information Is A Commodity Subject to market conditions Examples --- News & Journals (free vs paid vs registration-required) Manuals, repair guides, how-to books Recipes/cookbooks

Information Rules Spring 98 4 Britannica v. Encarta Britannica: 200 years, $1,600 for set 1992: Microsoft purchased Funk & Wagnalls to make Encarta Britannica response –Online subscription at $2,000 per year –Sales dropped 50% between 1990 and 1996 –Online subscription at $120 –CD for $200, since 1996 $70-$125

Information Rules Spring 98 5 Information Is A Commodity Subject to market conditions Usually has high creation costs

Information Rules Spring 98 6 Production (Creation) Costs First-copy – i.e., creation - costs dominate –Sunk costs - not recoverable Examples – –Traditional business examples Property Movie Script –Information business examples Interactive DVDs (including educational and gaming)

Information Rules Spring 98 7 Production (Creation) Costs First-copy – i.e., creation - costs dominate –Sunk costs - not recoverable True, but sometimes they’re very low Information business example Million Dollar Home Page

Information Rules Spring 98 8 Information Is A Commodity Subject to market conditions Usually has high creation costs Benefits from low marginal costs

Information Rules Spring 98 9 Marginal (Reproduction) Costs Variable costs small; no capacity constraints –Microsoft has 92% profit margins –Million Dollar Home Page costs = $50/year? Significant economies of scale –Marginal cost less than average cost –Declining average cost –Click-&-Mortar is cheaper than Brick-&-Mortar so it impacts traditional business too

Information Rules Spring Information Is A Commodity Subject to market conditions Usually has high creation costs Benefits from low marginal costs Threatened by further commoditization

Information Rules Spring Commoditized Information Example CD ROM phonebooks 1986: Nynex charged $10,000 per disk for NY directory ProCD and Digital Directory Assistance Chinese workers at $3.50 daily wage Bertrand competition –Start at $200 each –Price forced to marginal cost

Information Rules Spring Implications for Market Structure Cannot be "perfectly competitive" Examples of the 2 sustainable structures –Dominant firm/monopoly AOL/Time-Warner –Differentiated product Ask Jeeves …and combinations of above Google

Information Rules Spring If You are in Commodity Business Cost leadership Sell the same thing over again –Baywatch, Reuters –Reduces average cost

Information Rules Spring Differentiate Product Bigbook and maps (digitized yellow pages) West Publishing and page numbers Copyright and content What about more current examples?

Information Rules Spring First-mover Advantages Avoid greed –Respond to threat quickly and decisively –Limit pricing; highly credible with high FCs Play tough –Discourage future entry –Protects expression, not ideas –Imitation as a strategy –Constant innovation (search engines)

Information Rules Spring Hard to do for Incumbent May not recognize threat till too late –CP/M – Commodore/Atari/Amiga/etc. –Wordstar -- WordPerfect –VisiCalc – Lotus What about more current examples? –Alta Vista?

Information Rules Spring Personalize Your Product Personalize product, personalize price – My Yahoo!, My eBay – Priceline (airline tickets) Hot words (in cents/view) –Deja News: –Excite: –Infoseek: –Yahoo:

Information Rules Spring Know Your Customer Registration –Required: NY Times –Billing: Wall Street Journal –AOL’s ace in hole: ZAG Know your consumer –Observe Queries –Observe Clickstream –Conduct Usability Tests (eye-tracking, e.g.)

Information Rules Spring Logic of Pricing Quicken example –1 million wtp $60, 2 million wtp $20? –Demand curve (next slide) –Assumes only one price Price discrimination gives $10 million –Problems How do you know wtp? How do you prevent arbitrage?

Information Rules Spring Demand Curve Price (Dollars) Quantity (Millions) $20 $4 0 $60 123

Information Rules Spring Forms of Differential Pricing Personalized pricing –Sell to each user at a different price Ex: priceline, ebay, google adwords –Can exert both a downward and upward pressure on price Versioning –Offer a product line and let users choose Ex: Adobe Photoshop –Discussed in detail in a later chapter Group pricing –Based on group membership/identity Ex: Student discounts on popular software (studica.com) –Subject to price sensitivity, network effects, lock-in & sharing

Information Rules Spring Discussion Question How have search engines impacted the price of information?

Information Rules Spring Discussion Question How have search engines impacted the price of information? Google adwords & auctions

Information Rules Spring Price Sensitivity & The Internet International pricing US edition textbook: $70 vs Indian edition: $5 Pharmaceuticals: US vs Canada Auctions Price pressures – –Price forced steeply higher –Price forced significantly lower Product Search Engines Froogle Hot Deals Price Grabber

Information Rules Spring The Future of Information Costs What will impact future information costs? Will information become cheaper or costlier? –Can information become “priceless” in the way that more tangible assets do (“Liberty Bell”)? Who will pay [most] for information? –Individual seeking privacy? –Government seeking transparency? –Industry seeking profits?

Information Rules Spring Summary Understand cost structure Commodity market: be aggressive, not greedy Differentiate product and price Understand consumer Personalize products and prices Consider selling to groups

Information Rules Spring END Thanks! Martin & Joan