Thursday, November 17, 2011

Pricing Information Goods: A Strategic Analysis of the Selling and Pay-per-use Mechanisms
INSEAD Working Paper 2011/118/TOM

We analyze two pricing mechanisms for information goods { selling, where an up-front payment allows unrestricted use by the consumer, and pay per-use pricing where the payments are tailored to the consumer's usage patterns. We analytically model these pricing mechanisms in a market where consumers differ in terms of usage frequency and utility-per-use. When a monopolist employs each mechanism independently, we demonstrate that pay-per-use pricing generally yields higher profits than selling, provided the transaction cost associated with the former is not too high. We then show that pay-per-use yields higher profits than selling when usage frequency is uncertain, whereas selling yields higher profits when utility-per-use is uncertain. We then analyze a duopoly and demonstrate that, in the only non-zero pricing equilibrium, one duopolist employs selling and the other employs pay-per-use. Here, the findings from the monopoly case are reversed and selling always yields higher profits than pay-per-use. Further, we demonstrate that as the transaction cost associated with pay-per-use increases, the profits of both duopolists can increase. If an upgrade is to be offered later, we show that if consumers are myopic, the pay-per-use mechanism performs better in a monopoly, and selling performs better in a duopoly. Finally, we model the scenario where competing, vertically differentiated firms can choose endogenously between the two pricing mechanisms and demonstrate how the firms move from each offering both mechanisms when the transaction cost associated with pay-per-use is low to each offering only selling when this cost is very high.