Designing Incentives Is a Virtual Reality for Luring New Customers
After investing billions of dollars to create sophisticated consumer banking networks, America’s top bankers have finally realized that something important was missing from the mix: customers.
For example, after a decade of promoting a computer banking service called Direct Access in New York, Citicorp had managed to sign up just 50,000 of its 1.5 million eligible customers. So--surprise!--the nation’s largest bank has just announced that it will finally end fees on virtually (pun intended) all its electronic banking transactions. Some consumers could save hundreds of dollars annually. The idea, of course, is to use these new price incentives to lure recalcitrant customers on-line.
By contrast, First Chicago--America’s 10th-largest bank--disclosed last month that it will slap its clientele with a $3 fee to interact with a teller face-to-face and a $2 fee to chat with one on the phone.
Incentives, disincentives; carrots, sticks. The essential goal remains the same: to use market mechanisms more effectively as a method to shift customers to the electronic side of the banks’ networks. It’s logical and obvious.
But quite inadvertently, these crude little adventures in consumer electronic banking foreshadow the single most important issue facing tomorrow’s burgeoning on-line industries. No, it’s absolutely not user-friendliness, privacy or security, It’s price, price and--oh, yes--value. As the folks at Wal-Mart will attest, few things are more user-friendly than a lower price. The financial future of cyberspace is far more dependent on innovations in pricing than brilliant breakthroughs in technology.
If companies truly want to get customers to play and pay with their network offerings, they’re going to have to invest heavily in their pricing strategies. Designing incentives matters even more than designing technology. This is what the commercial banks are finally recognizing; this is what the smarter entrepreneurs in cyberspace already know.
For example, Netscape, a hot Silicon Valley software start-up, is practically giving away copies of its browser that lets people navigate the colorful, multimedia portion of the Internet known as the World Wide Web. Netscape President Jim Clark predicts there will be more than 25 million copies of the Netscape browser in people’s computers by the end of the year. In Netscape’s current business model, the company plans to make the bulk of its money by selling software to the host computers--the servers--that all these millions of browsers contact.
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This isn’t just a variation of the old “give away the razors, make money on the blades” marketing approach; it’s a reformulation of how software and networks can be bundled or unbundled, tightly linked or loosely coupled, in ways that create far greater flexibility in pricing for market share as well as in pricing for profit.
That’s one of the reasons why the Justice Department’s ultimately successful opposition to the proposed Microsoft-Intuit merger seemed so confused and poorly conceived.
At one point, the antitrust lawyers argued that the merger would lead to higher prices of Intuit’s personal finance software for consumers. In reality, Microsoft Chairman Bill Gates could have promised to cut the price of Intuit’s software in half--and chosen to make his money off personal finance services or any transactions enabled by the upcoming Microsoft Network on-line service. Where do you really want to make your money? On the network or the software? On the product or the service? Where do you draw the line?
Those are the core questions posed by the new economics of networks. The reality is, you can increasingly draw those lines anywhere you want, depending upon how you want to capture customers and profits. The blurry distinctions between network products and services are going to inevitably lead to dueling business models with fundamentally different economic assumptions. We’re going to see price wars in digital media that make the deregulated air fare wars of the 1980s look positively benign.
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For example, a Fidelity or Vanguard mutual fund has an economic incentive to encourage investors to track their investments on-line. Just as the banks are now cutting their on-line fees to attract customers, it might make economic sense for mutual funds and brokerage houses to actually give away portfolio management software and network access as a way to lock in customers. Of course, this would put price pressure on the software companies that sell personal finance software.
Similarly, why wouldn’t a movie company that’s producing a blockbuster film offer free access to a video game version of the film on an on-line network? Conversely, why not charge people to play the movie game on-line and--if they score well--give them discount tickets to the movie?
The opportunities for cost-effective cross-promotion and cross-subsidies are exploding. Untangling what constitutes fair cross-promotion and predatory cross-subsidy will make more than a few lawyers significantly richer.
Indeed, as more intelligent advertisers find their way onto the networks, the ability to play with pricing becomes even more profound. Is it unreasonable to believe that Philip Morris would be happy to subsidize any and all network costs of a group of smokers’ rights organizations coordinating their campaign efforts by computer? Wouldn’t Hartz Mountain like to sponsor the veterinarians Q&A; site of the World Wide Web? American Express would be crazy not to pay for Gold and Platinum members to browse through the voluminous number of travel sites discussed on the Internet--as long as the tickets to ride were finally purchased with the American Express card.
Of course, interfaces should be pleasingly designed and on-line services should offer clear value to consumers. But the most interesting and provocative business challenges posed by the rise of multimedia networks and on-line transactions is how best to price them.
From the tiniest of start-ups to the most humongous of Fortune 500 companies, different business models abound, with some able to give away the very quality products and services that others must charge for. That’s a recipe for a marketplace where lower prices aggressively drive innovation and innovation relentlessly drives prices.
