Download Managing Lock-In

Managing Lock-In
One of the main characteristics of the information age lies in the fact that there are
many consumers locked in to a certain technology or network. The switching costs may
be extremely expensive, which are exhibited through retraining and disruption costs.
There are contrasts between buyers and sellers; buyers want the cheapest possible price
with low switching costs and sellers want a locked in customer base. For buyers facing
lock-in, there are certain strategies that can minimize costs up front and down the road.
The first tactic is to bargain hard for initial sweeteners. A company can do this using
the following methods: emphasize to the seller the high switching costs associated with
choosing that company’s technology, convince the seller that your company will make
follow-on purchases, and persuade the seller that you are adept in influencing the
purchasing decisions of other consumers. The buyer should bargain for such things as
initial discounts, extended warranties, free upgrades etc. The second tactic is to take
steps to minimize your switching costs once in the lock-in cycle. This can be established
by finding a secondary supply source. It is important for the buyer to figure out the
switching cost so as to use this as leverage against the seller. Strategies such as partially
switching certain types of your business to other vendors, puts pressure on sellers to
provide excellent service and to keep costs to a minimum. Buyers need to be aware of
creeping lock-in, which stems from an ever-increasing amount of purchases from a
specific supplier. Hard bargaining is necessary for each initial investment. Another key
protection mechanism is retaining the rights of all information dealing with the seller.
This will make a future switch an easier transition.
At the other end of the spectrum, the seller is trying to lock-in the customer to
make substantial long-term profit. There are three principles that the supplier should
follow to build a solid base:
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invest in customers by offering them concessions and personalize your offers to
each individual consumer
entrench the customer by providing exceptional value which makes them more
committed to your products, technology, and services
leverage by offering complementary products to loyal customers and by selling
access to these locked-in customers to other supplies for supplemental income
You can estimate the value of a locked-in customer as the sum of the customer’s total
switching cost plus the dollar value of your underlying competitive advantage. This can
be represented by the formula we learned in class (P-d) + P/r + s < P + P/r. Shapiro and
Varian believe that the perfect competition model does relate to the information
economy, which contrasts with the beliefs of many economists. Their argument is that in
the process of attracting new customers firms lose money, and just recover these
investments from profitable sales to locked-in customers. As a buyer, you want to offer
products with an “open” interface, which means that they are compatible with other
products. This will make your product more appealing (i.e. software that is compatible
with Windows 95). It is also a good idea to offer big discounts to influential buyers.
Sellers should also encourage customer entrenchment by offering new features into
products and through loyalty programs (i.e. Visa points system). The seller can influence
the buyer by selling complementary products (i.e. Microsoft selling applications software
to run on Windows), offering access to your installed base to other companies, setting
differential pricing (personalized, versioning, and group pricing) to appeal to new buyers,
attempting to raise search costs, and exploiting the first-mover advantage (i.e. VHS
conquering Beta in the home video market despite having a less quality product).