Download Efficient Pricing of Geo-Marketing Internet Services: European vs

Efficient Pricing of Geomarketing Internet Services:
European vs. American Approach
Alenka Krek
Institute for Geoinformation, Technical University Vienna
Gusshausstrasse 27-29/127, A-1040 Vienna
[email protected]
Abstract
Geomarketing information is information that enables the user to take better and faster decisions
about marketing and sales activities. The main sources of information are geographic,
demographic, and statistical data. These data are usually collected and maintained by several
institutions and come in a variety of forms and formats. The final integrators acquire datasets,
sort, filter and organize them, and offer in advance defined analyses. In this paper we focus on
geomarketing services offered on the Internet where usually no physical good is exchanged. The
subject of trade is geomarketing information the user is able to extract from the datasets. The
main issue is how to set a Pareto efficient price for geomarketing information. The situation is
Pareto efficient when the sum of user’s and service provider’s surplus is maximized.
We investigate non-linear pricing strategies and their efficiency to serve mass markets and attract
users with different willingness to pay. Non-linear pricing is used in a broader sense to include
the practice of selling the same information product on various vertical markets at prices that are
not in proportion to the differences in marginal cost. The market research for the GISMO project
(Krek et al. 2000) showed that the US market differs substantially from the European. It has
characteristics of a commodity market, where providers offer very similar or equal products at
similar prices. This is feasible only if the prices for raw datasets, which represent the main barrier
to enter the market, are low or zero. Competition among service providers drives prices down and
enables them to successfully serve a mass market. The European approach is mostly determined
by the high prices of datasets and restrictions on the copyright forced by the National Mapping
Agencies. This prevents further production and creation of information products and serves only
a narrow group of users with high willingness to pay. We list the most important conditions for
Pareto efficient non-linear pricing of geoinformation services.
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Introduction
Price is a very important element of trade. It can only be discussed in relation to what is offered,
how much value the potential user attaches to the product and how much he is willing to pay for
it. A geomarketing service in this paper serves as an example for a geoinformation service in
general where a Geoinformation product is traded. A Geoinformation product is defined as a
specific piece of geoinformation that provides an answer to a particular user’s question. The
provider of a geoinformation service has to select the medium of delivery and the price for the
service.
We concentrate on geomarketing services provided online through the Internet. The service is
mostly done automatically, and not by a human. Usually no physical good is exchanged.
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Gathering information about the product, placing the order, and payment is done over electronic
network.
In sections 5 and 6 we analyse different pricing strategies for geographic information and their
Pareto efficiency. The situation is called the Pareto efficient when the user’s and service
provider’s surplus is maximized. We review marginal cost and non-linear pricing and explain in
which cases they conform to the Pareto efficiency. Setting a price equal to marginal cost is not
economically viable since such a price does not cover fixed cost. Some examples of non-linear
pricing, such as quantity discounts, term-volume commitments, and list of price options satisfy
the Pareto efficiency requirement if certain conditions are satisfied. We conclude with the list of
the most important conditions for the Pareto efficient pricing of geomarketing service. They can
be applied to geoinformation services in general.
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Geomarketing Services
A geomarketing service is a service of providing geomarketing information to the user.
Geomarketing information is information that enables the user to take better and faster decisions
about marketing and sales activities. This information can be delivered to the user in a different
form, format and through different media. Geomarketing information is gathered from internal
company data, which are combined with external demographic, statistic and geographic data. A
geoinformation that satisfies a particular information need in a specific decision making situation
is called a Geoinformation product.
2.1
Geomarketing Data
Geomarketing data consists of internal company’s data and external data. Internal data (the rate
of sale, current customers profiles, etc.) is collected and maintained by the company itself.
External data comes in a variety of formats and forms, as a collection of numbers, reports, maps,
etc., and is gathered by different institutions. Demographic and statistic data is collected and
maintained by Statistical Offices and aggregated to a certain extent. Geographic data is provided
in Europe mostly by National Mapping Agencies, in USA by the US Geological Survey (USGS).
Because of this broad variety of data, their structure, content and formats, they cannot be easily
integrated and are not straightforward usable by a non-technical user.
2.2.
Geomarketing Information: a Product
The source of geomarketing information is geomarketing data. Specialized companies collect the
data from different sources, combine them, sort and filter them. For example, the statistical and
demographic data have spatial dimension, which is usually given by the street name and house
number. This data has to be geocoded in order to link the attributes (purchasing power, age,
educational structure, etc.) with geographic data. The providers identify dimensions of data that
are valuable for a certain group of users, package them and offer them as a Geoinformation
product. A Geoinformation product is a specific piece of geoinformation that provides an answer
to a particular user’s question. The answer to the question can come in many different forms: as a
selected dataset, combination of datasets, a report, a map, etc. To make the geomarketing service
feasible, some in advance designed steps and analyses are offered to the user. The most common
are customer profile, site selection, and market penetration.
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3
Internet as a Medium of Delivery
The Internet changes the way transactions are done. User and seller can enter an electronic
relationship without personal contact. The buyer can place an order any time (from the seat at
home, late in the evening) and can take as much time as he wants or needs to take the decision
about the purchase. Searching for the right product over e-network, he can get comparable
information about similar products from other companies, their characteristics and prices.
Cooperation with potential and current users of geoinformation services is important. In the
Internet world, the gap between service-consumers and services-providers blurs. “Consumers
become involved in the actual production process, their ideas, knowledge, information become
part of the product specification process” (Tapscott 1996).
In a geomarketing service, usually no physical good is exchanged. The user gets only the result of
the analysis, the answer to his question. Even more advanced geomarketing services offer the
possibility of uploading the data of the user on the provider’s server and combining these data
with the collection of the data on the server.
A service offered via Internet involves less administration, paper work, and less human resources,
which reduces transaction costs. Direct connection to the computer accounting system can
provide systematic and efficient registration of the transactions. Security and protection
mechanisms enable the service provider to follow and control transactions. Selecting a proper
pricing policy in order to attract widespread use of the service is of great importance. In the next
sections, we review marginal cost and non-linear pricing, and analyse their Pareto efficiency.
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Pareto Efficiency
The situation is Pareto efficient if there is no way to make both the user and the service provider
better off. The sum of the user’s and provider’s surplus is maximized. It can be also understood
as maximizing the difference between economic benefits and costs that appear on the user’s as
well as on the provider’s side. The economic benefits are the benefits of using the product on the
user’s side and selling the product on the provider’s side. The user expresses the value the
product has to him with his willingness to pay for the marginal unit of the product. If he expects
high benefits, he will be willing to pay a high price for the product. Cost incurred on the provider
side is mostly high fixed cost of designing and creating the Geoinformation product and enabling
the service, and low marginal cost of providing an incremental unit of the product. The user’s
cost is the price he pays for the product, the transaction cost and the cost associated with
acquiring the information about the product.
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Marginal Cost Pricing and Pareto Efficiency
Marginal cost pricing is pricing where the price equals the marginal cost. The cost of an
economic good is an important determinant of how much the producer will be willing to produce.
The concept of “marginal” or “extra” cost is crucial for the situation on the market of economic
goods. It has an important role in appraising how efficient or inefficient any particular price and
production pattern is (Samuelson 1967). This observation is valuable for the standard economic
good where the total cost of producing the product depends on the quantity produced.
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The cost structure a Geoinformation product substantially differs from the cost structure of the
standard economic good. The total cost of producing the product is mostly a high fixed cost of
collecting the data and designing the product, and is not recoverable if the production is halted
(sunk cost). The marginal cost of producing the second and each additional copy of the product is
very low or zero, mostly the cost of disseminating the product. The share of the marginal cost in
the total cost of production is negligible. Marginal cost pricing of a Geoinformation product
would according to the marginal cost-pricing scheme imply very low or zero price.
“Pricing at marginal cost may or may not be efficient: it depends on how the consumers’ total
willingness to pay relates to the total cost of providing the good” (Varian 1999). At the first stage
of the production, the datasets have low value to most users and they have low willingness to pay
for them. The high cost of producing the datasets cannot be recovered. Marginal cost pricing does
not imply efficiency because it does not cover the total costs of producing a Geoinformation
product.
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Non-linear Pricing and Pareto Efficiency
Pricing is non-linear when it is not strictly proportional to the quantity purchased. Different
prices are charged to different groups of buyers for the same product. Non-linear pricing is also
used in a broader sense to include the practice of selling the same product on different markets at
prices that are not in proportion to the differences in marginal cost. Good examples are phone
rates, frequent flyer programs, and electricity (Wilson 1993). The first notion about charging
different users differently for the same product was called price discrimination (Pigou 1920) and
distinguished among three different forms of discrimination.
6.1
Price Discrimination
Pigou (Pigou 1920) first used the term price discrimination and he described the following forms
of non-linear pricing:
 First-degree price discrimination
The first-degree price discrimination is sometimes known as perfect price discrimination. The
producer sells different units of output at different prices and these prices may differ from
buyer to buyer. The buyer pays the maximum price that he is willing to pay, irrespective of the
cost of production and supply. Usually it is difficult to determine what is the maximum price
someone is willing to pay for the product.
 Second-degree price discrimination
The producer sells different units of output at different prices, but every individual who buys
the same amount of the good pays the same price. Second-degree price discrimination is much
more common in practice. Good examples of this discrimination are volume discounts and
coupons.
 Third-degree price discrimination
The producer sells the output to different people at different prices, but every unit of output
sold to a given person sells at the same price. Customers are divided into more groups, which
have different demand curves and different price elasticity. The highest price is charged to the
groups with the lowest elasticity. Examples of this discrimination are student discounts.
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6.2
Two-part Tariff
Two-part tariff is an example of a non-linear pricing and consists of two parts. The first part of
the tariff usually comes in the form of a membership, an annual or monthly license and is
supposed to cover fixed cost. The second part of the tariff is related to the usage (number of
reports transferred, number of bits, layers, etc.) and covers the incremental cost. This pricing
scheme is often used in telecommunication. Users are charged for the connection to the network
and additionally for the usage.
Two-part tariff pricing scheme can be very naturally applied to a geomarketing service. The first
part of the tariff represents a membership fee, an annual or monthly licence for access to the data,
reports and maps; the second part is an additional fee usually based on the volume transferred.
Price P for a geoinformation service is then
P = p0 + pv.q
where
p0
pv
q
fixed fee (annual, monthly, membership, etc.)
price set for a volume transferred
quantity transferred.
The revenue collected from the first part of the tariff (p0) is supposed to cover the fixed cost of
producing the first copy of the Geoinformation product. The price of usage (pv) should cover the
incremental cost and the cost of transaction. The combination of the membership and usage
constructed for the predicted demand is set so that the company’s total cost is recovered.
How high the fixed fee and the price of usage should be is an important question. Availability of
the raw data at low price will change the nature of the market. The price for both parts of the
tariff (p0 and pv) will form according to the equilibrium rules of supply and demand.
6.3
Pareto Efficiency of the Two-part Tariff
Two-part tariff can disadvantage a certain segment of the users. Imagine a geomarketing service
company offering geographic data over the Internet. For the simplicity of reasoning, imagine
there exist two segments of users: those who use data on a regular basis and have a high
willingness to pay (governmental institutions, ministries, utilities, etc.), and those who seldom
need data (students, individuals, small and medium companies, etc.) and have low willingness to
pay. In this case, a high fixed fee excludes the users with low willingness to pay, occasional users
who need only a small volume of the data and are not willing to pay an annual membership fee or
a license. The necessary condition for Pareto efficiency is not satisfied.
6.4
Quantity Discounts
Quantity discounts are a form of a non-linear price where the provider charges a lower price for a
higher volume purchased. The opportunity of selling high volumes at a low price is often
neglected in geoinformation business. Increased revenue from the higher volume at lower price
enables the provider to improve the service and reduce prices for all users. The quantity discounts
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are usually designed in order to stimulate sales, but can complicate the billing and accounting
system. Pareto efficiency of quantity discounts depends on the volume-price categories offered
by the service provider. This pricing strategy might disadvantage users with low willingness to
pay, not being able to pay nor interested in purchasing higher volumes.
6.5
Term-Volume Commitments
According to this strategy the user agrees with the service provider to pay a certain amount of
money for the service in advance. The payment is set according to the predicted demand for the
service. This kind of agreement usually involves some discounts, because the whole payment is
done at once and at the beginning of the period. Short-term contracts involve lower reduction in
price than longer contracts. This strategy reduces billing and accounting cost and is often used by
Internet providers. For example, “a one-year-term commitment to spend $2000/month obtains a
discount of 18%“ (Gong and Srinagesh 1998), for the 5-year contracts the Internet providers use
up to 60% discount. Term-volume commitments satisfy the Pareto efficiency requirement if the
user can choose among different schemes and are designed indiscriminately.
6.6
List of Price Options
Different pricing options can be combined and offered as a list of price options. In geomarketing
services, the two-part tariff is often combined with an additional pricing option, the uniform
pricing scheme. Under the uniform pricing scheme, the user pays the price (p2), which is
proportional to the data transferred. Usually the tariff per volume purchased (p2) is higher in the
uniform pricing scheme than the price (p1) proposed in the two-part tariff scheme, but the user
need not pay an annual membership fee or license. The user profits if he is an occasional user,
who needs a small volume of data. The sum he is willing to pay in this case is lower than the
annual membership or license fee plus the cost of the data transferred.
The price for the service is then
where p0  0
where p0 = 0
p0
p1
p2
q
P = p0 + p1.q
P = p2.q
two-part tariff
uniform pricing scheme
fixed fee (annual, monthly, membership, etc.)
price set for a volume transferred, membership option
price set for a volume transferred, no membership option, (p2 > p1)
quantity transferred
Adding the second option, we satisfy the requirements for Pareto efficiency. Each user can
choose between two pricing schemes; whether to buy at the uniform but higher price or the nonlinear, two-tariff price. This policy assures that the users with low willingness to pay are not
disadvantaged and satisfies the requirements for Pareto efficiency. In this case,” markets are
served that otherwise would not be” (Varian 1985).
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European vs. US and Canadian Approach
US and Canadian markets of geomarketing services are better developed than the European
market. The price of the raw data has a substantial influence on the further development of the
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geoinformation market. The US Statistical Bureau, Bureau of the Census and USGS give a
certain amount of reports, statistical and demographic data for free or charge a very low price.
The final integrators acquire datasets from different sources, sort, filter, and combine them, and
offer the possibility of executing an analysis as a geomarketing service. The user is willing to pay
for the result of the analysis. This approach successfully serves the mass market. For the US and
Canadian market we observed (Krek et al. 2000) the characteristics of a commodity market where
several providers offer very similar or equal products at similar prices. The competition among
them drives prices down. With low prices they are able to attract different segments of the
market. The structure of the market has characteristics of oligopoly.
The European approach is mostly determined by the high prices of datasets and restrictions on the
copyright forced by the National Mapping Agencies. This prevents further production and
creation of Geoinformation products and serves only a narrow group of users with high
willingness to pay.
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Conditions for Pareto Efficient Non-linear Pricing of Geoinformation Services
Efficient non-linear pricing of a geomarketing service is feasible only if certain conditions are
satisfied. We list the most important. They are generalized for geoinformation services in general,
providing geographic information to the user:
 Pricing options should be designed in a way that more options are offered to the user. Users
have the possibility to select among two or more different pricing options according to their
needs and willingness to pay. With self-selection of the product and price, they differentiate
themselves from other users on the market. It is important to stress that the selection must be
optional in order to satisfy the Pareto efficiency condition.
 The service provider should avoid discontinuities in the list of price options. When
discontinuities occur in the list of price options – this is not an optimal pricing strategy. The
non-linear pricing should be applied indiscriminately (Wilson 1993).
 The availability of the raw material for Geoinformation products at low or zero cost is one of
the crucial conditions for Pareto efficient non-linear pricing of service. High prices of datasets
consequently lead to high prices of the final products. This strategy tends to disadvantage
occasional users and users with low willingness to pay.
 The core datasets should be collected and designed in a way that the producers in a value
chain can use them for further production and set a price that can benefit the producer and the
user.
 Appropriate adjustment of the quality-price options is one of the conditions for the Pareto
efficient pricing of geoinformation services. Low-end Geoinformation products can be too
attractively charged at very low price and high-end products too expensive. In this case, the
sum of the user’s and provider’s surplus is not maximized.
 Knowing the willingness to pay or the value the product has to the user is one of the crucial
conditions for efficient pricing of a geomarketing service. In other words, it means knowing
the demand curve of the customers and the value Geoinformation has for the potential users.
 The selected pricing policy must be legal (Wilson 1993). In some Scandinavian countries, a
price-directorate can declare an alleged case of discrimination illegal and any type of price
differentiation must be approved.
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 The choices of different quality-price options must be introduced in a simple way so that users
and service providers can easily understand them.
 The Geoinformation products should be carefully designed. Only for the proper product
differentiation, which answers to the needs of a particular segment of users, the optimal
pricing can be designed. In order to achieve Pareto efficient pricing more careful observation
of the potential users’ needs is required.
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Conclusions
A Geoinformation product is not a standard economic good. The most significant is its cost
structure with high fixed cost of producing the first copy of the Geoinformation product and low
marginal cost of producing each additional copy. One can find similar structures in some other
industries such as telecommunication, electric power, airplane industry, and some others.
Efficient pricing in such environments typically involves prices that differ across users and types
of service. Non-linear pricing arises naturally and is closely related to the efforts of providers to
satisfy different needs of users with different willingness to pay. In this paper, we analysed
efficiency of geoinformation pricing according to the Pareto efficiency. Marginal cost pricing
(price equal to the marginal cost) of geoinformation service does not satisfy the Pareto efficiency
requirement. The total cost of production cannot be recovered with marginal cost pricing. Some
non-linear pricing strategies such as quantity discounts, term-volume commitments, and list of
price options satisfy the Pareto efficiency if certain conditions are fulfilled. In section 8, we list
these conditions. If a provider wants to be engaged in efficient non-linear pricing, he must decide
about two questions; how much output should be allocated to each group of users and what price
should be charged. He must be able to separate potential users into market segments with similar
price elasticity of demand for the firm’s product.
Low prices and no strict copyright protection of certain datasets enable new investors to enter
geoinformation market. This is the case in America and Canada where several geomarketing
providers integrate the datasets and offer them as a final product or service. The final
Geoinformation products have similar characteristics. The competition among them drives prices
down, which attracts a wide group of users. The European market is restricted to serve only the
users with high willingness to pay and with a demand for high quality.
A Geoinformation product has to be carefully designed and differentiated. The potential for
differentiation is mostly in the quality of datasets that has a substantial influence on the quality of
the final product. More research has to be done on the economic aspects of data quality and the
prices related to them. Several questions are still open for further research; how can dimensions
of quality be differentiated and how much contributes each of them to the final value of the
product, how should quality-price options be designed, how many of them should a producer
offer in order to achieve optimal allocation of resources and better social welfare.
Acknowledgements
This research was partially funded by the GISMO project, number 27463 under the EU Esprit
programme. I appreciate the efforts of Mag. Roswitha Markwart to improve the text.
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