Optimal Membership Fee and Usage Price Over Time for a Network Service

Abstract

This article examines the pricing decision of a provider of network services in the face of a growing market of customer bases that join the network and then have a demand for the service. The authors find the optimal pricing policy consisting of an ongoing membership fee and a usage price that maximizes the sum of discounted profits. Consistent with empirical observations, the authors assume that the average usage demand declines with the number of customers. The authors find that the optimal policy consists of a penetration strategy for the membership fee, low at the beginning, increasing with network size, and a skimming strategy for the usage price, starting high and declining later. The intuition behind the results is that if early adopters are heavy users, it is better to increase network size through a low membership fee and have a high usage price for the heavy users initially.