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Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian
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Page 1: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules:

A Strategic Guide to the Network Economy

Pricing Information

Carl Shapiro

Hal R. Varian

Page 2: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 982

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

Page 3: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 983

Production Costs

• First-copy costs dominate– Sunk costs - not recoverable

• Variable costs small; no capacity constraints– Microsoft has 92% profit margins

• Significant economies of scale– Marginal cost less than average cost– Declining average cost

Page 4: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 984

Implications for Market Structure

• Cannot be "perfectly competitive"

• 2 sustainable structures– Dominant firm/monopoly– Differentiated product

• …and combinations of above

Page 5: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 985

Strategy

• What to do– Differentiate your product

• Add value to the raw information to distinguish yourself from the competition

– Achieve cost leadership through economies of scale and scope

Page 6: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 986

Commoditized Information

• 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

Page 7: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 987

If You are in Commodity Business

• Cost leadership

• Sell the same thing over again– Baywatch, Reuters– Reduces average cost

Page 8: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 988

Differentiate Product

• Bigbook and maps

• West Publishing and page numbers

• Copyright and content

Page 9: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 989

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)

Page 10: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9810

Hard to do for Incumbent

• May not recognize threat till too late– CP/M– Wordstar– VisiCalc

Page 11: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9811

Personalize Your Product

• Personalize product, personalize price– PointCast– Personalized ads

• Hot words (in cents/view)– Deja News: 2.0 4.0– Excite: 2.4 4.0– Infoseek: 1.3 5.0– Yahoo: 2.0 3.0

Page 12: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9812

Know Your Customer

• Registration– Required: NY Times– Billing: Wall Street Journal– AOL’s ace in hole: ZAG

• Know your consumer– Observe Queries– Observe Clickstream

Page 13: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9813

Clickstream

• Interest and how long you look

• Connectionless nature of HTTP

• Java a promising solution– Peapod– Virtual Vineyards– Optimized browsers

Page 14: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9814

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?

Page 15: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9815

Demand CurvePrice(Dollars)

Quantity (Millions)

$20

$40

$60

1 2 3

Page 16: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9816

Forms of Differential Pricing

• Personalized pricing– Sell to each user at a different price

• Versioning– Offer a product line and let users choose

• Group pricing– Based on group membership/identity

Page 17: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9817

Personalized Pricing

• Catalog inserts– Market research– Differentiation

• Easy on the Internet

Page 18: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9818

Traditional Industries

• Airlines

• Direct mail

• Lexis/Nexis

• Supermarket scanners– Profit margin more than doubled 1993-1996– More effective than other forms of advertising

Page 19: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9819

Internet

• Virtual Vineyards

• Auctions

• Closeouts, promotions

Page 20: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9820

Group Pricing

• Price sensitivity

• Network effects, standardization

• Lock-In

• Sharing

Page 21: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9821

Price Sensitivity

• International pricing– US edition textbook: $70– Indian edition textbook: $5

• Problems raised by Internet– Localization as solution

Page 22: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9822

Network Effects

• Compatibility– Site licenses– Variety of schemes: per client, per user, per

server, etc.

• Lock-In– Wall Street Journal’s Newspapers-in-education

• Microsoft Office– Per seat, concurrent

Page 23: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9823

Sharing

• Transactions cost of sharing

• Videos

• Desire for repeat play

Page 24: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9824

Electric Library

• Who to sell to?

• Households

• Schools/libraries

Page 25: Information Rules: A Strategic Guide to the Network Economy Pricing Information Carl Shapiro Hal R. Varian.

Information Rules Spring 9825

Summary

• Understand cost structure

• Commodity market: be aggressive, not greedy

• Differentiate product and price

• Understand consumer

• Personalize products and prices

• Consider selling to groups


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