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Innovation and the Durable Goods Monopolist: The Optimality of Frequent New-Version Releases

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  • Ramesh Sankaranarayanan

    () (School of Business, University of Connecticut, Storrs, Connecticut 06269)

Abstract

When an improvable durable good (such as packaged software) saturates the market, the seller could be tempted to release new versions too frequently, hurting her profit. A novel contractual device, which I term as a Free New Version Rights warranty (free NVR warranty), can help the seller overcome this temptation. In a two-period game-theoretic model involving a monopolist firm facing heterogeneous consumers, I derive conditions under which a rational monopolist can act suboptimally: She could face a commitment problem and offer the new version, even if doing so lowers her overall profit. Profit is hurt because when consumers expect a new version, (a) fewer consumers buy the initial version, and (b) the monopolist is forced to charge a lower price for the initial version. I show how the free NVR warranty, which requires the monopolist to offer consumers the right to receive the new version for free for a limited period, can solve her commitment problem. This is a new, surprising finding: By bundling new-version rights with the initial version, the monopolist at first appears to be denying herself future revenue. I derive conditions under which this apparently unprofitable action is optimal, which is my main contribution. When free NVR is offered, consumer surplus decreases and social surplus increases. This work extends prior literature on durable goods and the Coase conjecture to innovative durable goods with network externalities. The findings have important practical implications for firms selling new versions of innovative durable goods subject to network effects, as well as for their consumers.

Suggested Citation

  • Ramesh Sankaranarayanan, 2007. "Innovation and the Durable Goods Monopolist: The Optimality of Frequent New-Version Releases," Marketing Science, INFORMS, vol. 26(6), pages 774-791, 11-12.
  • Handle: RePEc:inm:ormksc:v:26:y:2007:i:6:p:774-791
    DOI: 10.1287/mksc.1070.0289
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    File URL: http://dx.doi.org/10.1287/mksc.1070.0289
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    References listed on IDEAS

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    Cited by:

    1. Sumitro Banerjee & David A. Soberman, 2013. "Product development capability and marketing strategy for new durable products," ESMT Research Working Papers ESMT-13-01, ESMT European School of Management and Technology.
    2. Ashish Sood & Gerard J. Tellis, 2009. "Do Innovations Really Pay Off? Total Stock Market Returns to Innovation," Marketing Science, INFORMS, vol. 28(3), pages 442-456, 05-06.
    3. Jayarajan, Dinakar & Siddarth, S. & Silva-Risso, Jorge, 2018. "Cannibalization vs. competition: An empirical study of the impact of product durability on automobile demand," International Journal of Research in Marketing, Elsevier, vol. 35(4), pages 641-660.
    4. Amiya Basu & Padmal Vitharana, 2009. "—Impact of Customer Knowledge Heterogeneity on Bundling Strategy," Marketing Science, INFORMS, vol. 28(4), pages 792-801, 07-08.
    5. Vish Krishnan & Karthik Ramachandran, 2011. "Integrated Product Architecture and Pricing for Managing Sequential Innovation," Management Science, INFORMS, vol. 57(11), pages 2040-2053, November.
    6. Jia, Kunhao & Liao, Xiuwu & Feng, Juan, 2018. "Selling or leasing? Dynamic pricing of software with upgrades," European Journal of Operational Research, Elsevier, vol. 266(3), pages 1044-1061.
    7. Stefano Comino & Fabio M. Manenti & Franco Mariuzzo, 2015. "Updates Management in Mobile Applications. iTunes vs Google Play," Working Paper series, University of East Anglia, Centre for Competition Policy (CCP) 2015-04v3, Centre for Competition Policy, University of East Anglia, Norwich, UK..
    8. Zhang, Jie & Chiang, Wei-yu Kevin, 2020. "Durable goods pricing with reference price effects," Omega, Elsevier, vol. 91(C).
    9. Amit Mehra & Ram Bala & Ramesh Sankaranarayanan, 2012. "Competitive Behavior-Based Price Discrimination for Software Upgrades," Information Systems Research, INFORMS, vol. 23(1), pages 60-74, March.
    10. Oded Koenigsberg & Rajeev Kohli & Ricardo Montoya, 2011. "The Design of Durable Goods," Marketing Science, INFORMS, vol. 30(1), pages 111-122, 01-02.
    11. Stefano Comino & Fabio M. Manenti & Franco Mariuzzo, 2019. "Updates management in mobile applications: iTunes versus Google Play," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 28(3), pages 392-419, June.
    12. Wensheng Yang & Yinyuan Si & Jinxing Zhang & Sen Liu & Andrea Appolloni, 2021. "Coordination Mechanism of Dual-Channel Supply Chains Considering Retailer Innovation Inputs," Sustainability, MDPI, Open Access Journal, vol. 13(2), pages 1-22, January.

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