Adware, Shareware, and Consumer Privacy

by

Nataly Gantman, Tel Aviv University

Yossi Spiegel, Tel Aviv University

NET institute conferenceApril 1, 2005

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Introduction

Online distribution of software:Shareware - software must be paid for once

a trial period expires

Adware - ad supported software

Spyware - software installed without the end‑user consent and tracks and collects personal information without consent

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The main features of our paper We study the choice of programmers between shareware

and adware Strategic interaction between programmers, firms that

may advertise their products through ad banners, and consumers who buy software and products.

A main premise of our analysis is that targeted ads sent to adware users is not only a nuisance, but may also be beneficial

Claria Corporation has over 900 advertisers (including 85 of the Fortune 1,000), and an annual revenue of $90.5 million in 2003 and a profit of $35 million.

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Related literature on the economics of privacy

Posner (AER, 1981) - Privacy can be: Concealment of information Peace and quite Freedom and Authonomy

Privacy as "concealment of information“ – Info. on consumers’ preferences allows firms to: Use personalized prices (Acquisti and Varian, 2004; Calzolari

and Pavan, 2004; Dodds, 2003; Taylor, 2002 and 2004; and Wathieu 2002)

Offer products that better meet consumers' needs (Varian, 1996)

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Related literature on the economics of privacy

Privacy as "peace and quite": Hann et al. (2003) - firms invest to identify potential

consumers, while some consumers (privacy guardians) invest to avoid solicitations. Competition between firms raises both types of investments (which are socially excessive) and hence raises the cost of privacy protection.

McAndrews and Morgan (2003) - phone users can buy caller ID service to block telemarketers, while telemarketers buy ID blocking

Hann et al. (2002) - find empirical evidence that, among U.S. consumers, protection against misuse of private information given to online retailers, is worth $30.49‑$44.62.

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The model

3 types of agents: a programmer, consumers, and firms that sell consumer products.

The timing: The programmer chooses shareware or adware. Each consumer decides whether or not to get the software. If the programmer chooses adware then firms choose how

many ad banners to display. Consumers buy products and profits are realized.

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Consumers

Continuum of potential consumers - total mass of one Each consumer buys (at most) one software and one out of n

consumer products (each produced by a different firm). Consumers belong to n different and equal sized groups The utility of consumers in group i is s if they buy product i and

s‑t if they buy another product, where s v‑p, (p is exogenous) A consumer in group i learns about product i with prob. with

prob. 1‑, the consumer buys another product. Expected utility of a consumer who has no software:

t). - (s ) - (1 + s = U

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Shareware users

Expected utility of a shareware user in group i:

Assumption 1: q (1-)t

The direct utility from software, q, is smaller than the expected loss from mismatch

In equil., firms will agree to pay for ad banners.

.Upq =U ss

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Adware users The programmer can send adware users in group i targeted ads

(impressions) about firm i. The prob. that a consumer in group i notices at least one of the k i

impressions is:

The number of impressions that firm i needs to send to ensure prob. i :

z with m => z measures of how effective ad banners are in attracting the attention of adware users.

)m - (1 - 1 = ki

i

0. <

m) - (1

1 z ) - (1 z =k ii ln

,ln

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Adware users The expected utility of adware users:

β ~ U[0, B] - the disutility from privacy violation

i(1-)t - the expected loss from mismatch

When z (adware is effective), firms can get the same attention with fewer ads

,U + t ) - (1 + ) - (1 z - q = ) ( U iiai ln

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Firms Play a role only in the adware case Total demand from firm i:

,1 - n

) - (1 ) - (1

n +

) - (1+n

+n

- 1 = ),...,(Q

i j

i

iin1i

Nonadware users Info. adware users from group i Uninfo. users from groups other than i

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Firms Firm i's objective:

π p - c is the per unit price-cost margin

r is the per impression per user price charged by programmer

). - (1rz n

- ),...,(Q= in1ii ln

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Programmers The model begins after the programmer has already

developed the software => the development cost is already sunk

Programmer's profit from shareware is q Programmer's profit from adware:

In the 1st stage of the game, the programmer compares the profits from adware and shareware and decides how to distribute his software

.)-(1 n

rzn

1 = ii

ln

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Equilibrium - 3rd StageThe demand for targeted ads

Solving i(i,..., i)/qi = 0, yields for all i:

Since z < 0, (r) is a linearly decreasing demand function

with π (products are more profitable) with z (ad banners attract more attention) with (consumers more likely to be info. anyway)

.)-(1

rz+1(r)

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Equilibrium - 2nd stageconsumer's demand for adware A consumer will get an adware (rather than nothing) iff:

Only consumers with high β’s buy adware. Since β ~ U[0, B], the fraction of adware users is

0.)t-(r)(1+(r))-(1z-q=U-)(U a ln

.,1B

(r))(q,=r)(q,

min

This fraction is: with the benefit from adware, q+(r)(1-)t with the number of impressions, zln(1-(r))

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Equilibrium - 2nd stageconsumer's demand for adware The aggregate demand of firms for ad banners is:

3 effects of r:(i) Each firm pays for fewer ad banners per adware user(ii) Fewer ads means less privacy loss so (q,r)(ii) Fewer ads means less information on products so (q,r)

In our formulation, (i) and (ii) cancel each other out when (q,r) < 1 (some consumers do not get software).

r means (q,r) so Q(q,r) When (q,r) = 1 (all consumers get adware), only (i) is at work. r means Q(q,r)

(r)).-(1r)z(q,=q)Q(r, ln

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Equilibrium – 1st stageAdware or shareware? The programmer's profit from adware:

The programmer chooses r to maximize Oa(q,r).

Assumption 2: B is sufficiently large

The dist. of β (the loss of privacy) is sufficiently wide. In equil., some consumers do not get an adware since their loss of

privacy is too large. The programmer's profit from adware given r*:

r).rQ(q,=q)(r,Oa

.

4ztB

)t-(1+q=)r(q,O

2*a

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ResultsProposition 1: The solution to the programmer's problem:

(i) If B < -(1-)π/z, the programmer offers adware for all values of q.(ii) If B -(1-)π/z, the programmer offers adware if q is small and

shareware if q is large.

Intuition: When q is low, consumer pay little for shareware, but those with small β

will adopt free adware => programmers make money from ad banners. As q, WTP for shareware ; on the other hand, consumers with high β’s

will never adopt adware Shareware may become more profitable than adware.

Many popular software are first dist. as adware, but then, newer and improved versions are distributed as shareware (e.g., Gozilla and GetRight)

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Proposition 1: shareware is provided when q is high

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Technological progress - z

Proposition 2: As z:(i) The programmer adopts adware for a larger set of parameters and raises

r.(ii) Both the programmer and consumers become better off.(iii) Fewer impression are sent => less privacy loss.

Intuition: z boosts the demand of firms for ad banners => r Adware becomes more profitable z has two effects on consumers:

(i) Holding (r) fixed, z means that fewer impressions are needed to get the same level of attention from users => less privacy loss

(ii) z has a positive direct effect on (r) and a negative indirect effect since r*. In our model, the two effects cancel each other out => (r*) is independent of z.

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Social efficiency Proposition 3: r* is excessive => Too few ad banners

Intuition: For adware users with low β's, the benefits from info. exceed the

loss of privacy For adware users with high β's, the loss of privacy exceeds the

benefits from info. (they buy the adware only because they also get a utility q from the software).

As q, there are more adware users of the second kind. But the number of these users is limited since when q, the

programmer switches to shareware the aggregate benefit of consumers from ad banners exceeds the

associated disutility. The programmer fails to take into account this net benefit

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Social efficiency

Proposition 4: The programmer: underprovides adware if r*zln(1-(r*)) ½

(the programmer's optimal profit when the adware market is covered is small – likely if z is small),

overprovides adware if r**zln(1-(r**)) ½

(the programmer's profit at the socially efficient price when the adware market is covered is large – likely if z is large).

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Bans on adware U.S. legislators consider regulating or even banning any software that

monitors usage of the internet and transmits info. back from a location (Spy Block Act S.2145 and Safeguard Against Privacy Invasions Act, H.R. 2929).

The legislation is intended to combat spyware and malware but may also effectively make it impossible to distribute legitimate adware on line.

Proposition 5: A ban on adware hurts both consumers and the programmer

Intuition: The programmer is worse off by revealed preferences In the shareware case, p = q, so consumers get no surplus. In the adware

case, consumers with low β's get a positive surplus from the adware while those with high β's do not adopt adware.

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Competition in the software market 2 programmers develop software of equal quality. To avoid Bertrand competition, one programmer will

distribute his software as shareware and the other will distribute it as adware.

We study the following game:

The programmers simultaneously choose ps and r Firms decide how many ad banners to pay for. Each consumer chooses shareware or adware. Consumers buy products and profits are realized.

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Competition in the software market Assumption 3: B is sufficiently large (otherwise all buyers

get an adware even if the shareware is given for free)

Lemma 1: There exists a unique Nash equilibrium, (p,r).

Proposition 6: As z, p and r. Moreover the shareware programmer benefits, the adware programmer becomes worse-off and consumers benefit.

Proposition 7: A ban on adware hurts both consumers and the programmers.

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Conclusions We modeled the decision of programmers between

adware and shareware This choice is affected in our model by:

The quality of the software – favors shareware The quality of ad banners technology – favors adware

From welfare standpoint, our model suggests that There are two few ad banners in equilibrium There is too much or too little adware relative to shareware Bans on adware may be a bad idea