How to price an internet product
September 7, 2008
Subscriptions? Pay per use? Online advertising? Are you pondering the age old internet product manager’s question: “How are we gonna make money off this thing”? Well, you’re not the only one, and if you look at the economics driving pricing decisions, you could easily get discouraged.
Most internet information and service products cost a considerable amount of money to develop up front, and then have negligible costs for reproducing. For example, if you have a online news site, you’ll spend your cash developing the website infrastructure and design and producing the content. Once the stories are online, it really doesn’t cost you any more to show them to five people than it does five thousand people. In other words, most web products have a marginal cost of zero.
If you’ve taken a microeconomics class, you know that in the long run, competition drives prices down to the marginal cost. If you are pricing your news articles above the marginal cost (in this case, above $0), someone will come in and see the economic advantage of selling for a little less than you are. This will continue to happen until the industry reaches its equilibrium, at a price of $0.
This might explain why we’ve seen a movement away from online subscription models in the last 10 years. We’re seeing more and more sites rely on online advertising. As advertising dollars move from traditional to digital, the opportunities to profit from an advertising model increase.
So, if you have a unique product in high demand, you may be able to get away with charging your customers until the competition catches up to you. But in the long-run, you better have a backup revenue model. Additionally, charging for your service will result in reduced traffic, and will therefore devalue your web company and undercut your ability to bring in ad revenues.
In summary, make your internet information or service product FREE! Or someone else will, and they will eat your lunch.
If you’d like to learn more about internet economics, check out the very good book Information Rules by Carl Shapiro and Hal R. Varian.
