Optimal Digital Content Distribution Strategy in the Presence of the Consumer-to-Consumer Channel

Transcription

1 Optimal Digital Content Ditribution Strategy in the Preence o the Conumer-to-Conumer Channel Yunang Feng, Zhiling Guo, and Wei-yu Kevin Chiang Yu n a n g Fe n g received hi PhD in Inormation Sytem rom Univerity o Maryland, Baltimore County Hi reearch interet include electronic market, digital upply chain, and operation/marketing trategie Dr Feng reearch ha been publihed in the International Journal o Production Reearch Zhiling Guo i an Aitant Proeor o Inormation Sytem at Univerity o Maryland, Baltimore County She ha a PhD in Management Inormation Sytem rom the Univerity o Texa at Autin Her current reearch interet include inormation economic, electronic market, and upply-chain management Dr Guo paper have appeared in Management Science, Journal o the Aociation or Inormation Sytem, Deciion Support Sytem, and European Journal o Operational Reearch We i-y u Ke v i n Ch i a n g i an Aitant Proeor o Management Science at City Univerity o Hong Kong He ha a PhD in Buine Adminitration rom the Univerity o Illinoi at Urbana Champaign Hi reearch interet include upply-chain management, e buine trategie, and operation marketing interace Dr Chiang paper have appeared in Management Science and other publication Ab t r ac t: Although the online buine-to-conumer (BC) channel i the primary elling channel or digital content (eg, video, image, and muic), modern digital technology ha made poible the legal diemination o uch content over the conumer-to-conumer (CC) channel through peronal computing device, uch a PC, mobile phone, and portable media player Thi paper invetigate the optimal channel tructure and the correponding pricing and ervice trategie or digital content ditribution in order to undertand the buine value o introducing the CC channel alongide the prevailing BC channel We identiy condition under which it i more proitable to ue both BC and CC channel imultaneouly (ie, the dual-channel ditribution) In uch cae, the eller perorm price dicrimination among conumer but provide them with a higher level o ervice Our analyi urther characterize the beneit o ervice proviion We how that ervice proviion can increae the dual-channel pricing lexibility, reduce the eller BC channel dependence, and allow the eller to tolerate higher CC channel reditribution cot Finally, in examining the eect o a competitively determined BC channel price on optimal channel trategy, we ind that the eller preer a dual-channel ditribution under higher BC channel price All author contributed equally to thi paper Journal o Management Inormation Sytem / Spring 009, Vol 5, No 4, pp ME Sharpe, Inc / 009 $ DOI 10753/MIS

2 4 Feng, Guo, and Chiang Ke y w o r d a n d p h r a e : BC, CC, channel trategy, digital content, dual channel, pricing, ervice In a r e c e n t i n t e rv i e w, Dougla Merrill, ormer Google chie inormation oicer (CIO) and now preident o EMI digital buine diviion, aid, I think the indutry a a whole ha got ome really intereting experiment in what the uture world i We don t know yet what the real buine model i going to be We have to do more experiment, try more thing to ee what work [17] At a time when the muic indutry i in lux, Merrill move rom Google to EMI aim to help the company orm a digital buine trategy to compete on the Internet It i yet to be een what innovation i needed in a realm where all muic companie have had limited ucce It i clear, however, that integration o technology innovation into the irm digital buine trategy i being taken eriouly The Web ha created unprecedented opportunitie to ditribute digital content (or inormation good) uch a muic, video, e book, and otware Anyone who own the product can become an eective marketer in the ditribution chain due to eay reproduction and reditribution On the other hand, thi capability can eaily be outweighed by increaing online inringement In contrat to conventional method uch a tight law enorcement, and technology protection that increae the cot to pirate, o copyright violation, an alternative olution invite conumer to a broader participation in the ditribution chain o they can be hot or legitimate buine a eaily a or copyright inringement [10] Thi new approach reward conumer who hare the digital content with other Becaue unlimited copie o the digital content can be created and ditributed, the reward could be large enough to cover the original purchae price The reward provide an economic incentive or conumer to purchae and ditribute digital ile legitimately A new technological tool can meet both buine and conumer need that were impoible beore, allowing conumer active participation in the ditribution chain i now recognized a an innovative digital buine trategy or ditributing inormation good [4] Several buine initiative with regard to the digital content ditribution have been propoed in variou technological environment For intance, Brilliant Digital Entertainment ubidiary Altnet ormed an alliance with KaZaa to kick o a peer-topeer (PP) marketing campaign [10] KaZaa uer who earch or content ee reult diplaying Altnet ile with a gold icon, indicating that the ile are available or lawul download and ue Uer who hare the earched ile with other can accumulate Gold Point to redeem reward More recently, a novel platorm wa propoed in the mobile commerce environment or the ree trade o digital content where ordinary uer are allowed to market and reell copie o digital content to neighbor in their wirele device vicinity [5, 1] Tranaction among uer can irt be perormed in an oline PP manner without the immediate aitance o any central entity Later when uer are connected to the Internet, ale are recorded and partie involved in

3 Optimal Digital Content Ditribution Strategy 43 the tranaction are credited to their own account accordingly Reeller hare part o the proceed with the original copyright owner a both incentive reward or their marketing eort and compenation or their contribution o peronal reource or the oline tranaction Such a proce ha been hown to be technically eaible [15] The underlying technology that make the decentralized ditribution architecture work i digital right management (DRM) [9] DRM i an umbrella term including any digital protection ytem on any type o digital media Common type o DRM include encrypted code on DVD and CD, digital watermarking, and product activation DRM aim at protecting ownerhip and copyright o digital content by retricting what action an authorized recipient may take with repect to that content For example, Apple ipod ue it own DRM ytem called FairPlay, which encrypt ong and limit the playback o muic purchaed on itune, thereby protecting muician copyright [3] While muic label continue their battle againt illegal downloading in the court, they have increaingly hited their ocu toward promoting legitimate online ditribution Embracing and leveraging DRM technology i eential to thi eort So ar, a healthy number o DRM-codec platorm have been approved or ue by mobile operator to explore thi mobile muic market opportunity [31] Two other actor alo contribute to the development o thi new orm o paid-content, conumer-to-conumer (CC) channel ditribution Firt, increaingly popular ocial interaction among tate-haring uer group can eaily tranorm an into eective marketer in the Internet environment Thi model exploit ocial interaction to promote digital product ditribution and conumption Second, newly available inormation technologie (IT) uch a micropayment provide trading platorm to upport ditributed inormation proceing and market tranaction among conumer Thi ecured trading environment make it technically eaible or the copyright owner to eectively track ale and monitor uer account Both ocial network and new trading platorm help create the mot cot-eective model or legitimate CC ditribution Yet although the concept i intuitively appealing and technically eaible, it underlying buine model i neither well deined nor widely adopted Today, the dominant trading platorm or digital product i baed on the online buine-to-conumer (BC) model There are over 500 legitimate online muic ervice in over 40 countrie itune, the leader in online download, ha old over billion track ince it launch in April 003 and more than 1 billion in 006 alone [9] The recent innovation o the incentive-baed CC channel ditribution repreent a new buine trategy addreing the emerging new orm o digital content delivery Along with the huge potential, growing pain can occur when etablihed buine model are conronted with emerging technological advance Buinee mut careully ae the potential beneit and involved trade-o when integrating the new CC channel ditribution into their exiting BC channel trategy Thi paper aim to addre thee undamental iue in the dual-channel deign and ditribution We have developed economic model to tudy the buine potential o adopting a dual-channel ditribution or a digital product with heterogeneou conumer whoe willingne to pay depend on both their inherent valuation o the product and the

4 44 Feng, Guo, and Chiang aociated ervice proviion provided by the product eller/creator Under variou market cenario, we identiy condition under which it i more proitable to ue both BC and CC channel imultaneouly We ind that when the dual-channel ditribution i optimal, the eller will alway et a higher BC channel price and oer a higher level o ervice in comparion to the optimal ingle-channel ditribution trategy Our urther analyi alo indicate that ervice proviion increae the dual-channel pricing lexibility, reduce the eller BC channel dependence, and allow the eller to tolerate a higher CC channel reditribution cot We alo explore a likely cenario where the digital product ha a competitively determined price in the BC channel We ind that the higher the BC channel price, the le the eller BC channel dependence in adopting an optimal dual-channel trategy Literature Review Tw o t r e a m o l i t e r at u r e a r e pa rt i c u l a r ly r e l e va n t to our tudy dual-channel trategie in the upply chain and economic model or digital content ditribution A large body o work on the upply-chain tructure over the Internet ha ocued on the dual-channel ditribution model, which typically conit o a manuacturerowned direct ale channel and an intermediated retail channel Channel conlict and coordination have been widely tudied in the literature, oten with a ocu on pricing [9] Under variou cenario, dual-channel deign ha been hown to have important trategic implication in irm optimal ditribution trategy [18] Beide pricing, ervice ha been viewed a a nonprice attribute that poitively aect demand [14, 8, 30] Strategic conumer who either have heterogeneou valuation [8] or heterogeneou preerence toward channel election [4] have alo been conidered in modeling channel competition However, mot work in thi area aume the dualchannel ditribution tructure o elling phyical product in a BC environment Few inight are available or managing the ale o digital product in an environment that can be characterized by extenive CC interaction With the increaingly ophiticated Internet delivery channel and the ever-increaing digitalization o product and ervice, economic o digital good have received ubtantial reearch attention in recent year [19, 3, 5] Due to the popularity o PP technologie and ree content hared and exchanged in the network, piracy i oten conidered a a igniicant threat on the copyright owner proitability [6, 16] Some tudie aume that pirate copie are low-quality alternative to original product It i hown that, under ome condition, unauthorized reproduction can help the copyright owner price dicriminate dierent clae o conumer [6] Alternatively, piracy can be viewed a an opportunity or conumer to try out the product beore making a legitimate purchae Thereore, ampling can be a potential piracy-mitigating trategy [7] Much reearch eort in thi area how the potential o uing economic rather than purely technical olution to ight piracy In addition to piracy, ree riding [7] i another widely oberved phenomenon Variou incentive mechanim and payment cheme have been propoed to encourage uer to hare ile in PP network [11] One way to enure participant are com-

5 Optimal Digital Content Ditribution Strategy 45 penated i cacading payment, where royaltie and commiion are determined by the low o ditribution through the ytem [1] Another olution, dynamic reerral trategy, provide payment to uer who ditribute content to other depending on the uicient diuion o digital media in the PP network [13] However, none o thee propoed method have yet been ucceully implemented Recent work alo how that in the competitive interaction between the centralized client-erver tructure and the decentralized PP network, the coexitence o a PP network with a competing centralized architecture can be mutually beneicial [] The ame tudy ugget that the impact o PP network need to be careully conidered when pricing digital legal download in the BC market Prior work, while intereting, doe not conider an integrated model that can be upported by a platorm tructure taking advantage o both the centralized (eg, itune) and decentralized (eg, CC) ditribution trategie Thi paper aim to provide a irt tep toward undertanding the conumer-oriented dual-channel ditribution o digital content A Dual-Channel Model with CC Ditribution In t h i e c t i o n, w e p r e e n t t w o g e n e r a l m o d e l The benchmark model ha a digital product eller (or copyright owner) operating an online BC channel that ell directly to cutomer We compare thi ingle-channel model with a dual-channel model in which the eller allow conumer who have already purchaed the product rom the online BC channel to legally reell to other conumer (ie, uing both the BC direct channel and the CC indirect channel imultaneouly) Firt, let u ocu on the ingle-channel model Conider a eller who ell a digital product to a market with heterogeneou conumer through the online BC direct channel We characterize each conumer by a parameter, n [0, a], repreenting hi or her baic valuation or the digital product Following a conventional treatment (eg, [1,, 7]), we aume that the baic valuation i uniormly ditributed with the population denity normalized to one, which, without urther lo o generality, capture heterogeneity in neceitie, preerence, tate, and purchaing power, and o on, or the digital product We urther aume that a conumer willingne to pay alo depend on a product-peciic ervice, denoted by, that i provided by the eller The ervice can be undertood a a nonprice attribute aociated with the product oering, uch a product quality, ater ale upport, otware update, warrantie, and o on The ervice can alo be viewed a term and condition that are deined by the acce control technologie in term o uage, traner, or torage o the digital product For example, enhancing the quality o graphical uer interace (GUI) or incorporating additional eature o a given computer otware can typically increae conumer willingne to pay or the product Similarly, a ong with unlimited playback i more valuable than the ame ong with a limited number o playback, and a video ile that can be played in mot commonly ued digital media device i more attractive than the ame video ile that can only be played on ome retricted codec platorm Thereore, we deine the reervation price or the conumer whoe baic valuation i n a U(n, ) n +, where i a poitive contant that meaure the ervice eect

6 46 Feng, Guo, and Chiang Let p denote the price charged by the eller Aume that each conumer, who demand at mot one unit, will buy the product i the reulting urplu i nonnegative Then, the valuation o the conumer who i indierent about buying rom the BC channel i deined a n[: n[ p (1) Becaue all cutomer whoe valuation atiie n [n[, a] will buy the product, the total number o buyer will be a n[, that i, D(p, ) a p + () Obviouly, the market demand i aected negatively by market price p, but poitively by the eller ervice eort Alternatively, the eller can conider a dual-channel model coniting o both a BC direct channel and a CC indirect channel Suppoe the original eller charge a royalty ee, denoted by R, to the reeller or ucceully reditributing the digital product to a cutomer through the CC channel Let d be the cot incurred by the reeller to reditribute the product to a cutomer 1 The reditribution cot d relect the eller time and the eort pent in the reditribution procee, which include identiying potential cutomer, interacting with them, dierentiating among them, and reditributing the product to them through the CC technology To account or the rich interactive pattern and unique CC ditribution nature in the CC network, aume that the CC channel pricing deciion i delegated to the conumer reeller, who may charge a high/low price to high-/low-valuation conumer Thereore, unlike that in the BC channel, the price in the CC channel i not a deciion variable or the original eller The CC channel price will be negotiated between the reeller and the buyer uch that the reeller have a nonnegative urplu or making a ale and the buyer have a higher urplu to buy rom the reeller (rather than to buy rom the BC channel with price p) Thu, given the BC price p, the royalty ee R, and the reditribution cot d, all poible price in the CC channel all on the interval [R + d, p] Thi implie that no ale will occur in the CC channel i R + d > p When R + d p, the marginal conumer who i oered the lowet poible price R + d i indierent to buying rom the CC channel or nothing at all The marginal conumer valuation n] i expreed a n] R + d (3) When there i an opportunity to buy the product in the CC channel, there i a channel cannibalization eect on the BC channel To model thi eect, we deine q, 0 < q 1, a the proportion o innovator (or loyal conumer) who alway buy rom the BC channel and become the early adopter o the product provided that the price p doe not exceed their reervation price I the innovator cannot aord to buy rom the BC channel (p i higher than their reervation price), they would buy rom the CC channel o long a the oered price in the CC channel i lower than or equal to their reervation price Accordingly, thoe innovator whoe valuation atiie n [n[, a] (Segment 1 in Figure 1) will buy rom the online BC channel, while thoe

7 Optimal Digital Content Ditribution Strategy 47 Figure 1 Market Segmentation with n [n], n[] (Segment in Figure 1) will buy rom the CC channel at an aordable price All other cutomer whoe valuation atiie n [n], a] (Segment 3 in Figure 1) will buy rom the CC channel with a higher conumer urplu A a reult, the total number o cutomer in Segment 1,, and 3, repectively, can be pelled out a q(a p + ), q(p R d), and (1 q)(a R d + ) In ummary, the total demand in the BC channel (Segment 1) i given by D B (p, ) q(a p + ), (4) while the total demand in the CC channel (Segment and 3) i peciied a D C (p, R, ) (1 q)(a p + ) + p R d (5) It i traightorward to veriy that Equation (5) relect the empirically mot likely cenario where the demand in the CC channel increae in the BC channel price p and the ervice level, but decreae in the royalty ee R Note that the parameter a can be interpreted a the potential market ize When price and ervice are oered uch that all conumer make their purchae, we ay the market ha ull coverage Otherwie, the market ha partial coverage To capture the diminihing return on ervice expenditure, ollowing a common aumption in the literature (eg, [14, 8]), let the ervice cot incurred by the eller be a quadratic unction o the ervice eort, / When only the BC channel trategy i adopted, the eller et the price and the ervice level that maximize it total proit given by Π 1 p pa p (, ) ( + ) (6) On the other hand, when the dual-channel trategy i adopted, the eller maximize the ollowing proit by determining the BC channel price, the ervice level, and the royalty ee: (,, ) ( + )+ (( )( + )+ ) Π pr pθ a p R 1 θ a p p R d (7) Table 1 ummarize the optimal deciion and the correponding optimal channel proit with dierent channel trategie under dierent market condition 3

8 48 Feng, Guo, and Chiang Table 1 Optimal Channel Pricing and Service Strategie and Channel Proit Optimal Channel market tructure Condition coverage Correponding deciion Proit Single channel 1 Partial coverage p a a 1 1 a ( ) > 1 Full coverage p1 a 1 a a Dual channel > ( θ )( a+ d) Partial coverage a ( θ )( a+ d) Full coverage a p R p a( 3 θ) d d 1 θ 4 θ a( θ) d + d θ 4 ( a d)+ d θ ( θ ) 4 ( a d)+ a R a d a θ + a d dθ a d ( ) 4 θ + a+ d θ aa d 4

9 Optimal Digital Content Ditribution Strategy 49 When the ingle-channel trategy i adopted, it i more proitable or the eller to provide ull market coverage i > 1 When the dual-channel trategy i adopted, the proit-maximizing eller will provide ull market coverage i > ( θ) ( a+ d) a Accordingly, depending on the parametric value oberved, there are our market cenario a illutrated in Figure : SD Partial: Partial coverage with both ingle- and dual-channel trategie; D Full: Partial coverage with ingle-channel trategy and ull coverage with dual-channel trategy; S Full: Partial coverage with dual-channel trategy and ull coverage with ingle-channel trategy; SD Full: Full coverage with both ingle- and dual-channel trategie Optimal Channel Strategy By d i r e c t c o m pa r i o n o t h e d ua l-c h a n n e l and ingle-channel proit in Table 1, we can identiy the optimal channel tructure and the correponding pricing and ervice trategie under the dierent market cenario Propoition 1: (a) In an SD Partial market, it i optimal or the eller to adopt the dual-channel trategy when the proportion o innovator q > q 1, where θ 1 ( ) d a d ( a d ) + d a d (8) (b) In a D Full market, it i optimal or the eller to adopt the dual-channel trategy when the proportion o innovator q > q, where θ (( ) ( )+ ) a d a a (9) a+ d (c) In an S Full market, it i alway optimal to adopt the ingle-channel trategy (d) In an SD Full market, it i optimal or the eller to adopt the dual-channel trategy when the proportion o innovator q > q 3, where 4ad ( a+ d) θ 3 (10)

10 50 Feng, Guo, and Chiang Figure Optimal Market Coverage with Dierent Channel Strategy Proo or the propoition are in the Appendix Figure 3 how a graphical repreentation o thi propoition Obviouly, the proportion o innovator q mut be high enough to validate the dual-channel ditribution Further enitivity analyi or q with repect to other parameter how that when 1, the threhold level q1 and q decreae in the market ize a and the reponivene o market demand to ervice, but increae in the CC channel reditribution cot d In a dierent way, the threhold level q3 i independent o ervice-related market parameter when > 1 Thi i evident rom Table 1 that the eller charge the ame level o ervice 1 a regardle o elling through ingle channel or dual channel In order to urther undertand the eect o channel tructure on pricing and ervice trategie, we compare the optimal price and ervice in the ingle channel with thoe in the dual channel The reult are ummarized in the ollowing propoition: Propoition : (a) Under the optimal dual-channel trategy, the eller et a higher price in the BC channel and a lower royalty ee in the CC channel than the price in the ingle channel, that i, p > p1 > R (b) Under the optimal dual-channel trategy, the eller alway et a higher ervice level than that in the ingle channel, that i, > 1 An intuitive explanation or the above reult hold that in the dual-channel ditribution, a proit-maximizing eller et price and ervice more eiciently to achieve

11 Optimal Digital Content Ditribution Strategy 51 Figure 3 Optimal Channel Choice the econd-degree price dicrimination The coordination between the BC and CC channel allow the eller to charge a higher price and oer a higher ervice in the dual-channel BC market than their ingle-channel counterpart Eect o Reditribution Cot on Optimal Channel Strategy We have identiied the threhold value or adopting the dual-channel trategy under dierent market cenario in Propoition 1 Figure 4 illutrate the eect o the CC channel reditribution cot d on the three threhold value expreed in Equation (8) (10) It indicate a poitive correlation between the leat reditribution cot d in the CC channel and the leat portion o innovator or adopting the dual-channel trategy The intuition i that, when the reditribution cot i relatively low, the eller can rely on reeller to generate more proit in the CC market to compenate or hi or her lo in the BC market Thereore, the eller can aord a low portion o innovator to purchae through the BC channel In contrat, when the reditribution cot i relatively high, the eller i more intereted in ecuring ale in the BC channel, thu requiring a higher portion o innovative conumer Moreover, the indierence threhold i more enitive to the reditribution cot in an SD Partial market than in other market Thi implie that reducing the conumer reditribution cot can more eaily promote adoption o the dual-channel ditribution in a partially covered market under both the optimal ingle- and dual-channel trategie

12 5 Feng, Guo, and Chiang Figure 4 The Eect o d on the Threhold Value or the Dual-Channel Strategy Impact o Proportion o Innovator on Channel Proitability Now we invetigate the impact o the proportion o innovator on the relative beneit o the dual-channel trategy in comparion with the ingle-channel counterpart under dierent market cenario Uing the correponding ingle-channel proit a the benchmark, Figure 5 illutrate the percentage gain or lo in proit when adopting the dual-channel ditribution with repect to the change o the proportion o innovator q or a given et o parametric value (a 6, d 04, 01 (SD Partial), 09 (D Full), and 13 (SD Full)) The trictly increaing curve in the igure how that, although the dual-channel trategy yield more proit than the ingle-channel trategy a the proportion o innovator increae under all three market cenario, the lope o the increae i lightly dierent When the reponivene o ervice relative to price (ie, parameter ) i high, the proit increae i le igniicant than other cae The primary reaon, a we believe, i that both dual-channel and ingle-channel operation reult in an SD Full market in which the maximum market demand i achieved and there i no room or urther improvement in proitability The managerial inight, however, i that dual-channel deign till bring additional beneit in a ully covered market by price dierentiation and iner market egmentation In contrat, the mot igniicant beneit can be achieved when the reponivene o ervice relative to price i medium In other word, when neither price nor ervice eect dominate each other, it i more beneicial to adopt the dual-channel rather than the ingle-channel ditribution trategy

13 Optimal Digital Content Ditribution Strategy 53 Figure 5 Impact o Proportion o Innovator on Channel Proitability Additional Reult and Inight From previou analyi, we ee that both ervice proviion and pricing deciion collectively contribute to lexible channel deign and proit optimization In thi ection, we provide more inight into optimal channel trategy to clariy their repective eect under dierent market condition Abence o Service Proviion Eect It i increaingly evident that IT contribute to ervice innovation and hould be tightly integrated in the digital product ditribution For example, a digital product hould be old together with a ervice agreement, which may govern the uage, traner, or torage o the product The ability to oer product-peciic ervice can inluence conumer willingne to pay or the product, thu potentially aecting the eller pricing trategie In thi ection, we quantiy the beneit o ervice proviion in both the dual-channel and the ingle-channel ditribution Optimal Channel Strategy Without Service Simply etting 1 0, we have the optimal price p a( 3 θ) d 4 θ

14 54 Feng, Guo, and Chiang and optimal channel proit R a ( θ) d, 4 θ a d θad Π p, R + 4 θ or the dual channel The ingle-channel price and proit are p 1 a/ and P 1 (p 1 ) a /4, repectively Propoition 3: In the abence o ervice proviion, the optimal channel trategy i to chooe dual channel when the proportion o innovator q > q 4, where 4d a d θ 4 aa ( + 4d ) (11) Comparative tatic how that the threhold level q 4 decreae in the maximum valuation a, and increae in the reditribution cot d Further comparing Equation (11) with (10) we ee that in a market that can be ully covered with both the ingle-channel and dual-channel trategie under ervice proviion, the ame qualitative inight or chooing the optimal dual-channel trategy hold in the abence o ervice proviion Propoition 4: Under the optimal dual-channel trategy without ervice proviion, the eller et a higher price in the BC channel but a lower royalty ee in the CC channel than the price in the ingle channel, that i, p > p 1 > R Comparing Propoition and 4, we ee that pricing trategie in the dual channel without ervice have imilar qualitative inight a thoe in the dual channel with ervice proviion Dual Channel With and Without Service To better undertand the eect o key parameter on pricing trategie, market demand, and channel proit in the dual-channel deign, we perorm comparative tatic on the proportion o innovator q in the BC channel and the CC channel reditribution cot d Sign o the irt derivative are hown in Table Not urpriingly, the qualitative eect on q or d are the ame regardle o ervice proviion, except the impact o q on the BC channel price An increae o q will lead to a decreae o the BC channel price in the dual channel without ervice, indicating the eller willingne to oer lower price to attract demand rom the innovator in the BC channel However, an increae o q doe not necearily lead to a decreae o the BC channel price in the dual channel with ervice proviion, implying that ervice doe reduce the eller dependence on the BC channel ale to generate proit Evidently, the CC channel reditribution cot d ha a poitive eect on the BC channel demand but a negative eect on the CC channel demand Becaue the total

15 Optimal Digital Content Ditribution Strategy 55 Table Comparative Static in the Dual-Channel Ditribution Sign o derivative with repect to q Sign o derivative with repect to d With Without With Without ervice ervice ervice ervice BC price +/ CC royalty ee Service + N/A N/A BC channel demand CC channel demand Total channel proit + + Note: N/A not applicable channel proit decreae a d increae, there i a threhold value beyond which the ingle-channel outperorm the dual-channel ditribution The ollowing propoition compare the maximum aordable reditribution cot that make dual-channel ditribution eaible in the preence or abence o ervice proviion: Propoition 5: The threhold reditribution cot in the dual channel with ervice i higher than that in the dual channel without ervice, that i, d _ < d _ Thi implie that ervice proviion in the dual-channel ditribution can more eectively tolerate conumer relatively higher reditribution cot Conequently, the eller can make more proit rom the ervice-enhanced BC channel ale and become le dependent on the CC channel ditribution or revenue generation The ollowing reult how another beneit o ervice proviion on the eller pricing trategy: Propoition 6: Under optimal pricing, the dual channel with ervice trategy ha higher pricing lexibility than that in the dual channel without ervice, that i, p R < p R Recall that the CC price all on the interval [R + d, p] Simply deducting d on both ide o the above inequality we can eaily compare the CC price range Thereore, given the conumer reditribution cot d, the CC price range in the dual channel with ervice proviion i larger than that in the dual-channel without ervice proviion Thi demontrate the value o ervice proviion in improving the dualchannel pricing lexibility Dual Channel Without Service Veru Single Channel With Service From Table 1, we know that under optimal pricing, the eller alway preer to provide a poitive level o ervice From a dierent perpective, the ollowing propoition compare the relative eectivene between chooing dual-channel ditribution without ervice and ingle channel with ervice:

16 56 Feng, Guo, and Chiang Propoition 7: I < ( a d) ( a ad+ d ), the eller preer dual-channel ditribution without ervice to ingle-channel ditribution with ervice i the proportion o innovator q > q 5, where θ 5 ( d ( a d )+ ( a d) ) a ( a+ 4d d ) The condition tate that, when the proportion o innovator i high and demand reponivene to ervice i not big enough, the eller would preer a dual channel without ervice proviion to a ingle channel with ervice proviion In urther comparion o the dierent threhold value in Equation (8) (1) we ind the ollowing relation: (1) Propoition 8: Service proviion can decreae the channel indierence threhold, that i, q 3 <q < q 1 < q 4 < q 5 Since the eller will preer the dual-channel ditribution only i the proportion o innovator i higher than the threhold value, the reult q 3 < q < q 1 < q 4 how that ervice proviion can reduce the eller dependence on the innovative conumer to ind the dual-channel ditribution more proitable Moreover, the relationhip q 4 < q 5 indicate another apect o the ervice beneit, a it require a higher threhold value to jutiy the dual channel without ervice proviion trategy in comparion to the ingle channel with a ervice proviion Abence o Monopolitic Pricing Power In a competitive market environment, it i increaingly diicult or irm to exercie market power A irm that i unable to exercie market power i known a a price taker For example, we oberve that the price in the online muic market i relatively table acro digital muic provider 4 Since Apple priced muic at a lat ee $099 per track in 003, it ha ormed a conumer expectation that everyone ele ha to ollow Thereore, a price-taking irm can employ a competitive pricing trategy which imply et it price on the bai o the price charged by competitor or the price etablihed by an indutry leader Price-taking irm mut rely on other dierentiating actor uch a ervice to attract cutomer To undertand the eect o competitively determined BC channel price on pricetaking irm ervice proviion and channel trategy, now we extend the general model to a pecial cenario in which the BC channel price p i aumed competitively determined by the indutry or market The only deciion variable or the eller i the ervice level in the ingle-channel model, while the ervice level and the royalty

17 Optimal Digital Content Ditribution Strategy 57 ee R are the deciion variable in the dual-channel model Table 3 ummarize the optimal price and ervice trategie and the optimal-channel proit Comparing optimal proit under the ingle-channel and dual-channel ditribution, we have the ollowing reult: Propoition 9: When the BC channel price i competitively determined, the optimal channel trategy i to chooe dual channel when q > q ], where θ B+ / A and A ( a p) ( a p+ p )+ p d+ p B ( a 3p+ p )( a+ p )+ d( p a)+ p p+ d 4dp( a p) + dp p( a+ d) 5p d + p Figure 6 illutrate the relationhip between the threhold value q ] and BC channel price p with a given et o parametric value (a 30, 0, d 1) We ee that the threhold value or adopting an optimal dual-channel trategy decreae in the BC channel price When p i high enough, the dual-channel trategy outperorm the ingle-channel trategy regardle o the portion o innovator However, when p i relatively low, it require a relatively large portion o innovator in order or the dual-channel ditribution to be optimal When p d, the dual-channel trategy i ineaible regardle o the portion o innovator Concluding Remark Wi t h t h e p ro l i e r at i o n o e c o m m e r c e, irm have become increaingly creative in their ue o multiple elling channel to ditribute digital product In addition to the popular BC channel ditribution, there are now emerging opportunitie to involve conumer in CC channel tranaction Thi tudy ha invetigated the buine value o thi emerging dual-channel trategy in acilitating digital content ditribution Speciically, we have contructed economic model to analyze a digital product eller optimal channel tructure and pricing and ervice trategie Under variou market condition, we ound that dual-channel ditribution i more avorable than ingle-channel ditribution when the portion o innovator in the conumer population i higher than ome threhold value When dual-channel ditribution i optimal, the eller alway preer to et a higher price and oer a higher level o ervice in comparion to thoe in the ingle-channel ditribution In addition, we conider other cenario related to the ervice proviion and the eller pricing power We have hown that there i igniicant value aociated with the proviion o ervice The beneit include reducing the dependence on innovative conumer, tolerating a larger CC

18 58 Feng, Guo, and Chiang Table 3 Optimal Channel Strategie when BC Channel Price I Comparatively Determined Optimal deciion Channel proit Single channel 1 p p ( a p)+ p Dual channel 1 R ( ( 1 θ) ( a+ θp ( 1 θ ) )+( θ p d ) ) ( 1 θ ) θp ( 3 θ)+ 1 ( a aθ d θ) ( ) θp ( )+ a d θ a p dθ a p θpd 1 θ aθ 3 p a ( ( 1 θ ) ) + ( ) + ( ) ( )+ ( )

19 Optimal Digital Content Ditribution Strategy 59 Figure 6 Optimal Channel Strategy When BC Channel Price I Competitively Determined channel reditribution cot, and allowing or additional pricing lexibility We alo ound that, when the BC channel price i competitively determined in the market, the threhold value or chooing an optimal dual-channel trategy decreae in the BC channel price The major contribution o thi paper i to provide the irt tep toward undertanding the digital product eller (or the digital content owner ) dual-channel ditribution trategy in an emerging technology enabled CC market However, there are everal limitation Firt, we adopted a monopoly model ramework in thi tudy We looked at the digital content ditribution problem rom the perpective o content owner (copyright holder) or a orward integrated online retailer (the content owner ha it own ditribution channel) From the legal perpective, the monopoly ramework can be jutiied by the act that digital content i oten copyrighted work and i not eaily ubtitutable The monopoly ramework alo come rom the recent obervation that muician, or example, are experimenting heavily on the el-ditribution model via the Web uing revolutionary digital ditribution method uch a BitTorrent and other ile-haring technologie [0] Our model provide important managerial inight or the deign and integration o uch new ditributional channel At the ame time, we alo oberve that ome digital content (eg, popular ile) are available in competing (and potentially ree) network Conceptually, we can ditinguih between content provider who create and upply original content, and network ervice provider who maintain the ditribution network that deliver content Introducing competition between dierent network would be an intereting uture reearch topic To model conumer conumption preerence and purchaing behavior, we aumed the proportion o innovator i a contant that i exogenouly determined by

20 60 Feng, Guo, and Chiang the characteritic o the population One direct beneit o uch modeling eort i the analytical tractability and the clean inight gained in orming an optimal channel trategy Alternative model, however, could conider it a an endogenou variable that i aected by the eller price and ervice choice How uch interaction aect the channel trategy and proitability and, more importantly, how channel tructure might aect the conumer conumption experience are important iue that hould be urther invetigated Our model ocue on a cenario where a ingle verion o the digital product i oered The product ha homogeneou quality regardle o the ditribution channel Realitically, the product may be oered with dierent compreion method (eg, a codec wrapped with DRM), which reult in ile o dierent ize that are appropriate or dierent need or downloading, traner, and playing on dierent device Higher compreion generally come at the expene o product quality Although continuou technological improvement hold the promie o allowing greater compreion with minimum data lo, undertanding the economic implication o product quality on product verioning remain another uture reearch direction Finally, tatic model cannot reveal inight on market dynamic In a rapidly changing buine environment, price oten change dynamically over time in repone to evolving market condition Future work may alo conider dynamic pricing over the entire product planning horizon Acknowledgment: The author thank the anonymou reeree and the Editor or their valuable comment that greatly improved the quality o the paper Not e 1 The huge potential o conumer-oriented dual-channel ditribution i the broader reach enabled by the notably low cot o reditribution among conumer Thu, we implicitly aume that d i ubtantially lower than the highet poible valuation a I the reditribution cot i too high, no one would reditribute the product, making analyi o the dual-channel ditribution moot The author thank an anonymou reviewer who provided inightul comment 3 For notational convenience, we ue ubcript and upercript to ditinguih variou cenario Subcript 1 and indicate ingle and dual channel, repectively Supercript indicate channel trategie with ervice proviion 4 We thank an anonymou reeree or bringing thi iue to our attention Re e r e n c e 1 Arora, G; Hanneghan, M; and Merabti, M PP commercial digital content exchange Electronic Commerce Reearch and Application, 4, 3 (005), Caadeu-Maanell, R, and Herva-Drane, A Peer-to-peer ile haring and the market or digital inormation good Working Paper, Harvard Univerity, Cambridge, Caadeu-Maanell, R; Herva-Drane, A; and Mitchell, J Peer-to-peer ile haring and the market or digital inormation good Harvard Buine School Cae Study , Boton, Cattani, K; Gilland, W; Heee, HS; and Swaminathan, J Boiling rog: Pricing trategie or a manuacturer adding a direct channel that compete with the traditional channel Production and Operation Management, 15, 1 (005), 40 56

21 Optimal Digital Content Ditribution Strategy 61 5 Cattelan, R; He, S; and Kirovki, D Prototyping a novel platorm or ree-trade o digital content In RF Rodrigue and LFG Soare (ed), Proceeding o the 1th Brazilian Sympoium on Multimedia and the Web New York: ACM Pre, 006, pp Chellappa, RK, and Shivendu, S Economic implication o variable technology tandard or movie piracy in a global context Journal o Management Inormation Sytem, 0, (Fall 003), Chellappa, RK, and Shivendu, S Managing piracy: Pricing and ampling trategie or digital experience good in vertically egmented market Inormation Sytem Reearch, 16, 4 (005), Chiang, WY; Chhajed, D; and He, JD Direct marketing, indirect proit: A trategic analyi o dual-channel upply-chain deign Management Science, 49, 1 (003), Digital muic report IFPI, London, January 17, 007 (available at wwwipiorg/content/ ection_reource/digital-muic-reporthtml) 10 Evangelita, B KaZaa to oer option to hare muic legally San Francico Chronicle (May 0, 00), E1 11 Golle, P; Leyton-Brown, K; Mironov, I; and Lillibridge, M Incentive or haring in peer-to-peer network In L Fiege, G Mühl, and UG Wilhelm (ed), Proceeding o the Second International Workhop on Electronic Commerce London: Springer-Verlag, 001, pp He, S; Cattelan, RG; and Kirovki, D Modeling viral economie or digital media ACM SIGOPS Operating Sytem Review, 4, 4 (008), Hoanagar, K; Tan, Y; and Han, P Dynamic reerral in peer-to-peer media ditribution Working Paper, Univerity o Pennylvania, Univerity Park, June 1, 008 (available at paperrncom/ol3/papercm?abtract_id96915) 14 Iyer, G Coordinating channel under price and non-price competition Marketing Science, 17, 4 (1998), Kirovki, D, and Jain, K O-line economie or digital media In BN Levine and M Claypool (ed), Proceeding o the 006 International Workhop on Network and Operating Sytem Support or Digital Audio and Video New York: ACM Pre, 006, article 0 16 Klein, B; Lerner, AV; and Murphy, KM The economic o copyright air ue in a networked world American Economic Review, 9, (00), Kramer, SD Interview: Dougla Merrill, Preident, EMI digital buine: We need to quetion everything paidcontentorg, April, 008 (available at wwwpaidcontentorg/ entry/419-interview-dougla-merrill-preident-emi-digital-buine/) 18 Kumar, N, and Ruan, R On complementing the retail channel with a direct online channel Quantitative Marketing and Economic, 4, 3 (006), Novo, IE, and Waldman, M The eect o increaed copyright protection: An analytic approach Journal o Political Economy, 9, (1984), Sandoval, G Nine Inch Nail releae Internet album CNET New, March 3, 008 (available at 1 Shaked, A, and Sutton, J Relaxing price competition through product dierentiation Review o Economic Studie, 49, 1 (198), 3 13 Shaked, A, and Sutton, J Natural oligopolie Econometrica, 51, 5 (1983), Shapiro, C, and Varian, HR Inormation Rule: A Strategic Guide to the Network Economy Boton: Harvard Buine School Pre, Slater, D; Smith, M; Bambauer, D; Gaer, U; and Palrey, J Content and control: Aeing the impact o policy choice on potential online buine model in the muic and ilm indutrie Berkman Center or Internet & Society, Harvard Law School, 005 (available at 5 Sundararajan, A Managing digital piracy: Pricing and protection Inormation Sytem Reearch, 15, 3 (004), Takeyama, L The welare implication o unauthorized reproduction o intellectual property in the preence o externalitie Journal o Indutrial Economie, 4, (1994), Tirole, J The Theory o Indutrial Organization Cambridge, MA: MIT Pre, Tay, AA, and Agrawal, N Channel dynamic under price and ervice competition Manuacturing & Service Operation Management,, 4 (000), Tay, AA, and Agrawal, N Modeling conlict and coordination in multi-channel ditribution ytem: A review In D Simchi-Levi, SD Wu, and ZM Shen (ed), Handbook o

22 6 Feng, Guo, and Chiang Quantitative Supply Chain Analyi: Modeling in the E Buine Era New York: Springer, 004, pp Xia, Y, and Gilbert, SM Strategic interaction between channel tructure and demand enhancing ervice European Journal o Operational Reearch, 181, 1 (007), Yoie, DB, and Merrill, TD ipod v cell phone: A mobile muic revolution? Harvard Buine School Cae Study , Boton, 007 Appendix: Proo o Propoition Proo o Propoition 1 (a) The eller proit dierence in the ingle- and dual-channel trategie in the SD- Partial market can be expreed a Π d ( a d)+ θ a d d a d Π 4 θ 1 + ( ) ( ) Becaue 1 and ( θ) ( a+ d), a we have 4 q > 0 and > 0 So the denominator i poitive We ee that the nominator i a linear unction o q It i eay to check that the nominator i negative i q 0 and i poitive i q 1 There mut exit a threhold value 0 < q 1 < 1 uch that P P 1 0 Solving or q 1, we have θ 1 ( ) d a d ( a d ) + d a d I 0 < q q 1, then P P 1 < 0 So the ingle-channel trategy outperorm the dual-channel trategy I q 1 < q 1, then P P 1 > 0 So the dual-channel trategy outperorm the ingle-channel trategy (b) The eller proit dierence in the ingle- and dual-channel trategie in the D Full market can be expreed a Π a a 1 d a d + θ( + ) Π ( ) Under condition 1 and > ( θ) ( a+ d), a

23 Optimal Digital Content Ditribution Strategy 63 we have > 0 So the denominator i poitive We alo have q > d/(a + d) It i eay to check that, i q d/(a + d), the nominator i negative, and i q 1, the nominator become poitive Since P P 1 i a linear unction o q, there mut exit a threhold value 0 < q < 1 uch that P P 1 0 Solving or q, we have θ (( ) ( )+ ) a d a a a+ d I (d/(a + d)) < q q, then P P 1 < 0 So the ingle-channel trategy outperorm the dual-channel trategy I q < q 1, then P P 1 > 0 So the dual-channel trategy outperorm the ingle-channel trategy (c) The eller proit dierence in the ingle- and dual-channel trategie in the S Full market can be expreed a Π a 1 ad d ad a d + θ + Π 4 θ 1 + Under the condition > 1 and ( θ) ( a+ d), a we have 4 q > 0 So the denominator i poitive We alo have q < d/ (a + d) We ee that the nominator i a linear increaing unction o q It i eay to check that the nominator i negative i q d/(a + d) Thereore, P P 1 < 0 So it i alway optimal to adopt the ingle-channel trategy (d) The eller proit dierence in the ingle- and dual-channel trategie in the SD- Full market can be expreed a 4ad a d Π Π1 + θ + 4 Clearly, P P 1 i a trictly increaing unction o q I q 0, P < P 1, and i q 1, P P 1 Solving P P 1 0, we have q 3 4ad/(a + d) Thereore, i 0 < q q 3, the ingle-channel trategy i optimal I q 3 < q 1, the dual-channel trategy i optimal Proo o Propoition (a) (i) In the SD-Partial market, the dierence between the ingle-channel price and that in the dual-channel BC market price can be expreed a

24 64 Feng, Guo, and Chiang p 1 p 4 ( )( a d d )+ θ( d + ( a+ d) a) ( 4 θ )( ) From Propoition 1, we know that the denominator i poitive Under the condition 1, the nominator i poitive i q 0 and q 1 Since the nominator i a linear unction o q, we have p > p 1 or all 0 < q 1 (ii) In the SD-Partial market, the dierence between the ingle-channel price and royalty ee in the dual channel can be expreed a R d a a d d ( )+ θ + p1 4 θ ( ) 4 Under the condition 1, we have 4 q > 0 and > 0 The denominator i poitive It i eay to veriy that the nominator i negative i q 0 I q 1, the nominator i a unction o The two root are d a d ad a d > + a a d ad a d > 1 Thereore, we only need to conider 1 There are two cae I 0 < < 1, then the nominator i negative In thi cae, we have R < p 1 or all 0 < q 1 I 1 < < 1, then the nominator i poitive In thi cae, the threhold value or R > p 1 i determined by d θ a a d + d 4 For all q > q, R > p 1 However, rom the boundary condition we mut have ( θ) ( a+ d), a ( + ) θ< θ a d a a+ d Under the condition 1 < < 1, we can veriy that q > q Thu, we can aely exclude the cae R > p 1 Thereore, in the SD-Partial market, the CC channel royalty ee R i lower than the ingle-channel retail price p 1

25 Optimal Digital Content Ditribution Strategy 65 The analye in the D-Full and SD-Full market are imilar We omit the proo here Proo o Propoition (b) In the SD-Partial market, the ervice dierence between the ingle channel and dual channel can be expreed ( ) d( )+ θ a+ d d 1 4 θ ( ) Under the condition < 1, we have 4 q > 0 and > 0 The denominator i poitive It i eay to check that the nominator i negative i q 0 and i poitive i q 1 Solving 1 0, we have d θ a+ d d Thereore, > 1 i q < q 1, and 1 i 0 < q q Recall rom Propoition 1 that the condition or the dual channel to be optimal i q > q 1 Write the threhold dierence a d a d+ d a d d θ1 θ ( ) + ( a d d a d ) a+ d d ( + )( ) It i eay to check that a d + d > 0, a + d d > 0, > 0, a + d d > 0, and (a d ) + d(a d ) > 0 Thereore q 1 > q We can aely exclude the cae or 1 Hence, > 1 alway hold in the SD-Partial market Following a imilar approach, the ame reult can be derived in the D-Full market and SD-Full market We omit the proo here Proo o Propoition 3 Write the optimal proit dierence in the ingle channel and the dual channel without ervice proviion a Π 4d( d a)+ θa a+ 4d Π 44 θ 1 It i clear that the denominator i poitive Since the nominator i negative i q 0 and i poitive i q 1, olving P P 1 0, we have