Information Rules
Chapter 1 and 2
Pricing Information
CMIS 520 March 14, 2005
Information Goods
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Anything that can be digitized
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Software, text, images, videos, music, etc.
a.k.a. content, digital goods
‘Experience’ Goods
Unique cost characteristics
Unique demand characteristics
CMIS 520 March 14, 2005
Information Goods: Unique Features
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System of Products
Complements
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Different manufacturers
Strategy for complementors as well as
competitors
Compatibility as strategic choice
Standards and interconnection
Product lines
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High fixed cost, low incremental cost
Leads to value based pricing
CMIS 520 March 14, 2005
Information Goods: Cost Characteristics
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First Copy Costs
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One of the most fundamental features of
information goods is that their cost of production is
dominated by the “First Copy Costs” (Fixed
Costs).
Once the first copy of an information good has
been produced, the cost of creating a duplicate is
next to nothing (Marginal Cost).
CMIS 520 March 14, 2005
Information Goods: Cost Characteristics
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Distributing Information Goods
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With recent advances in information technology,
the cost of distributing information goods has
fallen, causing first copy costs to compromise an
even greater portion of total costs.
CMIS 520 March 14, 2005
Information Goods: Cost Characteristics
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Economies of Scale
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Fixed costs of production are large, but the
variable costs of reproduction are small.
This cost structure can lead to substantial
economies of scale.
The more you produce, the lower your average
cost of production.
CMIS 520 March 14, 2005
Information Goods: Cost Characteristics
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Sunk Costs
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The dominant component of fixed costs of
producing information are Sunk Costs.
Sunk costs generally have to be paid up front,
before commencing production.
In addition, marketing and promotion costs are
large for information goods.
CMIS 520 March 14, 2005
Information Goods: Cost Characteristics
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Variable Cost Structure
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The cost of producing an additional copy of an
information good typically does not increase, even
if a great number of copies are made.
Normally there are no natural limits to the
production of additional copies of information.
CMIS 520 March 14, 2005
Information Goods: Cost Characteristics

Marketing Opportunities
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Information is an experience good.
Sellers of information goods can distribute free
samples via the internet, enabling the information
vendor to distribute free copies for essentially
nothing.
CMIS 520 March 14, 2005
Costs Characteristics: Summary
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The cost characteristics of information goods
has significant implications for competitive
pricing strategies
Information is costly to produce, cheap to
reproduce.
When the first copy of an information good has
been produced most costs are sunk and
cannot be recovered.
Multiple copies can be produced at constant
unit costs.
No natural capacity limits for additional copies.
CMIS 520 March 14, 2005
Cost and Competition: Pricing
Strategy Questions
Discussion
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Is the market information goods a competitive
market in which many suppliers offer similar
products, each lacking the ability to influence
prices?
Is the ‘auction’ type of markets applicable
where price is determined by the highest
bidder?
Is the ‘The Prime Costs Plus’ policy (as
typically the case of physical goods) a viable
option?
CMIS 520 March 14, 2005
Cost and Competition: Pricing
Strategy
Some
Important Points

Markets for information will not and cannot
look like text book perfect competitive
markets in which there are many suppliers
offering similar products, each lacking the
ability to influence prices.
CMIS 520 March 14, 2005
Pricing Strategy
Some Important Points
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‘Auction’ type of market where a product is
sold to the highest bidder works for goods in
fixed supply such as stocks or airline seats.
but this is not a viable option for a good which
the incremental production cost is zero.
‘The Prime Costs Plus’ policy, typically
applied in the case of physical goods, is also
not a viable option for information goods.
CMIS 520 March 14, 2005
Cost and Competition
“Information Commodity Markets don’t work”

Nynex developed the first CD Directory of the NY Area
in 1986 and charged $10K per CD to large clients.
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Executive in charge of the product James Bryant left
Nynex to Set up Pro CD, to produce a national
directory. Others followed.
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Phone Companies wouldn’t rent their computerized
listings to CD companies at a reasonable price for fear
of cannibalizing their $10 Billion Yellow Pages.
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Pro CD hired Chinese workers at $3.50 per day to type
in every listing in the phone book twice.
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The resulting CD database had 70 million listings.
CMIS 520 March 14, 2005
Costs and Competition
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Copies of the CD were produced for less than $1
each. By the early 1990’s the CD Phone Book sold
for hundreds of dollars.
In 1999 at least half a dozen competitors offered
national CD phone directories for $20.There are
also several Internet services that offer free
directory service, they depend on advertising
revenue.
Today the CD phone directory has apparently
morphed into an otherwise free internet service
industry, providing menus of additional personal
information services for a charge, such as
background checks, criminal records, credit history,
etc..
CMIS 520 March 14, 2005
Costs and Competition
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The CD Phone Directory is a Classic example of
why Information commodity markets don’t work.
Once several firms have sunk the costs
necessary to create the product, competitive
forces tend to move the price towards marginal
cost, i.e. the cost of producing an “additional”
copy.
Competition among sellers of commodity
Information pushes prices to zero.
Free information on the Net is simply selling at
Marginal Cost - “zero”
CMIS 520 March 14, 2005
Cost and Competition
Market Structures for Information Goods.
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High Sunk Costs and Low Marginal Costs
have significant implications for market
structure of information industries.
Final Analysis there are only 2 sustainable
structures for Marketing Information.
The Dominant Firm Model.
Differential Product Market.
Amalgams or combinations of both models
are not uncommon.
CMIS 520 March 14, 2005
Cost and Competition:
The Dominant Firm Model.
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May or may not produce the “best”
product, but by virtue of it’s size and
scale economies it enjoys a cost
advantage over it’s rivals.
Microsoft is great example of
dominating thus controlling the market
for PC Operating Systems.
CMIS 520 March 14, 2005
Cost and Competition
Differential Product Market.
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When a number of firms produce the same
kind of information with many different
varieties.
This is the most common market structure for
information goods
Publishing, film, television, and some
software markets fit this model
CMIS 520 March 14, 2005
Cost and Competition
Combinations
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Amalgams or combinations of the two
models are not uncommon.
All Markets are differentiated, it’s a
matter of how much.
In the TV Listings Information Market,
TV Guide Dominates, selling around 1
billion copies per year.
CMIS 520 March 14, 2005
Cost and Competition
TV Guide Example.
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Many Local advertiser supported guides are
distributed free as standalones or with Sunday
Newspapers that compete with commodity
information in TV Guide.
Competition from GIST TV and other online is
starting to take-off coupled with WEB TV.
Today TV guide has free internet listing service,
which provides a platform for advertising-up
and coming shows much like the paper guide.
They also offer very low yearly subscription
rates for the paper guide - just $5.
CMIS 520 March 14, 2005
Cost and Competition
Principles of Competitive Strategies
 Differentiate your product. Add value to the
raw information and distinguish your product
from the competition’s.
 In a dominant firm industry, Achieve cost
leadership through economies of scale and
scope.
 These classic principles are just as valid in
information markets, offering new
opportunities to exploit them.
CMIS 520 March 14, 2005
Cost and Competition
Principles of Competitive Strategies
 Pricing policies are central to either
strategy. To succeed you must become the
price and cost leader based on scale, or
create a unique information resource and
charge based on value.
 If you dominate the market and don’t worry
about competitors you still have to worry
about high value pricing. Stockholders still
want high returns on investment.
CMIS 520 March 14, 2005
Cost and Competition
Differentiation
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Lesson from the CD phone book Story –
Don’t let your information become a
commodity. Do everything you can to
differentiate your product from others.
Strategy in the Britannica- Encarta Battle
requires product differentiation. Three
market segments are emerging: a
multimedia bells and whistles market, an
educational market, and an authoritative
reference market.
CMIS 520 March 14, 2005
Cost and Competition
Cost Leadership
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If it is hard to differentiate your product you can at
least try to sell a lot of it. If you can sell more than
others, your average costs will be lowest allowing
you to make more money when others cannot.
To sell a lot you will have to lower your price, and
thus earn a smaller amount on each unit sold.To
win you have to make up for it in volume.
This can be a dangerous game If two or more
firms discount heavily, counting on scale
economies that come with market leadership.
Both cannot succeed.
CMIS 520 March 14, 2005
Cost and Competition
Latest Britannica – Encarta
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Britannica has a wide range of authoritative
products available from internet subscription
service - $70, CD/DVD - $50, and four
distinct hard bound encyclopedia sets
ranging from $500 to $2,000, plus specialized
CD/DVD in depth profiles, such as World
Religions, US Presidents, etc.. for $10.
Encarta is only available as CD/DVD in
deluxe and basic versions, each for $20.
CMIS 520 March 14, 2005
Cost and Competition:
First Mover Advantage
 First Mover Advantage can be a successful
strategy in the presence of the scale of
economies endemic in the information
Industries.
 Such leadership may not be worth winning at
the cost of a bloody price war.
 Best way to secure a leadership position is
through an early presence in the Market,
combined with a forward looking approach to
pricing.
CMIS 520 March 14, 2005
Cost and Competition
First Mover Advantage.
 Britannica example shows how historical leaders are
at risk from new technologies reducing the cost of
creating and distributing information.
 The differentiation strategy adopted often make use
of the technology that threatens them.
 If differentiation is difficult or limited, the incumbent
information provider can always adopt a cost
leadership position.
 Owing to economies of scale the Market Leader
often tends to be the cost leader.
CMIS 520 March 14, 2005
Cost and Competition
First Mover Advantage.
 The historical leader should be able to find a
pricing strategy to retain leadership position if
the newcomer has no advantages in terms of
cost or technical prowess.
 If you are alert, scale economies should work
with you not against you.
 Don’t think you are entitled to continue to set
selling prices as high as you have in the past.
CMIS 520 March 14, 2005
Cost and Competition
First Mover Advantage.
 A two pronged approach offers the best chance for the
historical leader to make money. Even if it cannot
prevent it’s information from becoming a commodity.
 First, don’t be greedy. Exercise “Limit Pricing”,
sacrifice some short-term margin by dropping prices to
make their markets less attractive.
 Second, play tough. Turn the threat of
commoditization on it’s head and use it to your
advantage. If you can convince potential competitors
that you will respond with dramatic price cuts if they
enter your market, then you won’t have to lower prices
now to discourage entry.
CMIS 520 March 14, 2005
Cost and Competition: Discussion Q
Has Microsoft been a first mover in anything?
CMIS 520 March 14, 2005
Personalizing your Product
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Pricing and Product Design
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If you are successful in creating a unique source
of information and avoid commoditization, you
have some breathing room in terms of both pricing
and product design – how you package and
present your information.
CMIS 520 March 14, 2005
Personalizing your Product
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How do you get the most value for what
you’ve got?
1. Personalize or customize your product to
generate the most value for your customers.
2. Establish pricing arrangements that
capture as much of that value as possible.
CMIS 520 March 14, 2005
Know Your Customer
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Maximize value
Personalize an information product
2 Main ways to get customer information:
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Registration and billing
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Demographic information
Observation
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Search queries
Clickstream
CMIS 520 March 14, 2005
Know Your Customer
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Registration and Billing
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Internet Service Providers (ISPs) and major sites
which require registration or payment
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the ZAG (zip code, age and gender)
Advertisers can purchase customer demographics
for a premium or fee
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Offer incentives in order to gather customer information
Coupons
Giveaways
Contests
CMIS 520 March 14, 2005
Know Your Customer
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Registration and Billing Continued
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Customers are hesitant to provide personal
information for fear of how it will be used
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over 40% give false information
CMIS 520 March 14, 2005
Know Your Customer
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Observation
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Save and Analyze user queries/ searches
Monitor clickstream
Challenges
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A lot of data to sort
HTTP protocol is “connectionless”
Java
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ability to write your own browser
able to monitor user behavior
CMIS 520 March 14, 2005
Pricing Your Product
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Internet makes it easy to personalize your
product and also to price your product
Products highly tuned to customer’s interests
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Pricing flexibility
Tailored goods
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Research Reports – Forrester Research & the Research
Board
Mass Market Consumer Information Goods
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Ex: Quicken
CMIS 520 March 14, 2005
Pricing Your Product
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Tradeoff when setting one price
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Set high price and sell only to consumers who
place a high value on your product
Set a low price and sell to lots of consumers
IDEAL SITUATION: Sell the product to each
different consumer at that consumer’s
maximum willingness to pay
CMIS 520 March 14, 2005
Pricing Your Product
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Perfect Price Discrimination
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Charging each customer just what he or she is
willing to pay
Very difficult
How?
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Point-to-Point Technology ( or One-to-One Marketing)
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Can sometimes arrange for multiple, personalized prices
CMIS 520 March 14, 2005
Pricing Your Product
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A.C. Pigou (1920)
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Described One-to-One Marketing as First Degree
Price Discrimination
3 Types of Differential Pricing
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Personalized Pricing – Sell to each user at a different
price
Versioning – Offer a product line and let users choose
the version of the product most appropriate for them
Group Pricing – Set different prices for different groups
of consumers, as in student/senior discounts
CMIS 520 March 14, 2005
Personalized Pricing
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Charging different prices to different
consumers
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traditionally with mail order catalog inserts.
pricing based on location, demographics, and/or
past purchase behavior
Information technology enables MORE
personal pricing by optimizing packages &
charging accordingly
CMIS 520 March 14, 2005
Personalized Pricing
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INTERNET - offers more pricing opportunities
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price based on what consumers are buying now
offer specials based on consumer’s internet click
stream
can mark up/down prices immediately
inexpensive form of market research as well
CMIS 520 March 14, 2005
Personalized Pricing
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•
EXAMPLES:
Airlines: pricing depends on when flight is booked,
restrictions consumer is willing to accept, travel history,
etc.
•
Information providers: pricing depends on type of
enterprise, size, time of day used, printing frequency,
etc.
•
‘Smart’ cash registers: offer discounts to those who
are price sensitive or those purchasing competitor’s
products
CMIS 520 March 14, 2005
Personalized Pricing
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Summary of personalized pricing
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Personalized product & pricing
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Know the customer
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Differentiate prices when possible
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Use promotions to measure demand
CMIS 520 March 14, 2005
Group Pricing
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Economist refer to group pricing as “thirddegree price discrimination” where prices are
based on group identity
4 reasons to sell to groups
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Price Sensitivity
Network Effects
Lock-In
Sharing
CMIS 520 March 14, 2005
Group Pricing

Price Sensitivity – members of groups can be
charged different amounts for the same
product
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CMIS 520 March 14, 2005
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Group Pricing

Network Effects occur when the value one user places
on a good depends on many other people are using it
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CMIS 520 March 14, 2005
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Group Pricing

Lock-In
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When companies use standardized products it
can be very costly to switch to a new product
Employees have to be retrained
An effective technique to get customers is offer
huge discounts to get them to use your product
CMIS 520 March 14, 2005
Lessons
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It is important to know how much you invest in
producing and selling your information
If you are in a market with many firms seize market
share and find a way to add value to the information
Differentiate by personalizing the information and
price
Invest in collecting market data
Use this information to sell your customers
personalized products at personalized prices
Consider that higher returns can be
obtained by selling to groups
CMIS 520 March 14, 2005
Questions
CMIS 520 March 14, 2005