Pricing On-Demand Services: How Best to Combine Access and Usage Fees?

Abstract

Common pricing plans for pricing digital goods and services that are consumed in multiple units repeatedly over time include a simple per-unit plan (also called pay as you go or usage-based pricing), a per-period plan (all you can eat buffet or membership pricing), and a combination of the two via either a two-part tariff (2PT) that imposes both fees on all buyers or a self-selection menu that allows buyers to pick one type of fee. Although the latter two plans combine the two fees in very disparate ways, we find that both plans generate roughly the same profit, with each having only a small advantage under different conditions. Crucially, though, the menu has a significant advantage on market coverage. We show that in heterogeneous markets the profit advantage of two-instrument plans over an appropriate single instrument plan (the best of per-unit and per-period) is most significant when satiation-rates (rate of change in marginal valuation) are similar across consumers. Otherwise, an appropriate single instrument plan does a reasonable job of balancing profitability and tariff complexity. When the firm wants to implement a `simple' single-instrument plan but is uncertain about satiation-rates then employing a per-unit plan is less risky because on average it is more profitable compared to a per-period plan. The per-unit plan also generates higher market coverage compared to the per-period plan across the spectrum of scenarios.