Category: Pricing

Social Reading

Feedly, the RSS Reader I’ve been using ever since Google Reader shut down, has announced a feature called “Shared Collections“. This is something like the Google Reader shared items (much loved by its loyal users including me, but something that apparently wasn’t good enough for Google to retain), except that it is available only for premium users.

 

While this is in theory a great move by Feedly to start shared collections, recognising the unfulfilled demand for social reading post Google Reader, their implementation leaves a lot to be desired. And I’m writing this without having used the feature, for, in an extremely daft move, it is available only for pro users. My problem is with the pricing model, which charges content creators (or curators or aggregators, if you like to call them that) for sharing content!

There are so many things wrong with this that I don’t know where to start. Firstly, if you charge people for creating content, that significantly increases the barrier to creating content. If there is an article I like and want to share with my (currently non-existent) followers, the fact that I have to create a premium account to do so means that the barrier to doing so is too high.

Secondly, if I’m going to be a consumer of shared collections from other people, I’ll need a certain critical mass of friends before I start using the feature. I won’t start using a feature only because one or two friends are curating content on it. The critical mass is much higher. And by putting barriers to entry to people who want to share, it makes this critical mass even more difficult to obtain.

Thirdly, Feedly doesn’t have a social network of itself so far (though I’m not aware what permissions they’ve taken from my when I used my Google account to log in to the service). And without having a ready social network for discovery (Google Reader leveraged the Google Talk network), how do they expect people to discover each other’s collections, once created? Are they relying on external networks such as Facebook or Twitter?

It is not easy to build a social network of curation. Google Reader had managed it quite well back in the day by first allowing people to share items without comment, then add external content, and then to add comments. It was an extremely powerful way for people to share blogs and other content, and discussion on that was rather active. I even remember quite a few people adding me on Google Talk for the sole reason of wanting to follow my Shared Items.

In recent times we’ve seen the news aggregator app Flipboard starting its personal collections feature. I have a collection, but don’t remember the last time I put something into it – for without any interaction on that, there’s absolutely no motivation. Flipboard, by the way, has access to your Facebook and Twitter graphs, and so has access to some sort of a social network. Yet, despite keeping the feature free, they haven’t been able to generate sufficient activity on it.

Feedly has got just about everything wrong with its Shared Collections feature. There is disincentive for content creators. There is no incentive for content consumers. They don’t have a ready social network. And there doesn’t seem to be any interaction.

If only Google were to bring back Google Reader and Shared Items, now that they’ve decided to dismantle Google+.

 

Market depth, pricing and subsidies

A few days back I had written about how startups should determine how much to subsidise their customers during the growth phase – subsidise to the extent of the long-term price. If you subsidise too much initially, elasticity might hit you when you eventually have to raise prices, and that can set you back.

The problem is in determining what this long-term sustainable price will be. In “one-sided markets” where the company manufactures or assembles stuff and sells it on, it is relatively easy, since the costs are well known. The problem lies in two-sided markets, where the long-term sustainable price is a function of the long-term sustainable volume.

A “bug” of any market is transaction costs, and this is especially the case in a two-sided market. If you are a taxi driver on Ola or Uber platform, the time you need to wait for the next ride or distance you travel to pick up your next customer are transaction costs. And the more “liquid” the market (more customers and more drivers), the lesser these transaction costs, and the more the money you make.

In other words, the denser a market, the lower the price required to match demand and supply, with the savings coming out of savings in transaction costs.

So if you are a two-sided market, the long-term sustainable price on your platform is a function of how big your market will be, and so in order to determine how much to subsidise (which is a function of long-term sustainable price), you need to be able to forecast how big the market will be. And subsidise accordingly.

It is well possible that overly optimistic founders might be too bullish about the eventual size of their platform, and this can lead to subsidising to an extent greater than the extent dictated by the long term market size. And some data points from the Indian “marketplace industry” show that this has possibly happened in India.

Having remained credit card only for a long time now, Uber has started accepting cash payments – in order to attract customers who are not comfortable transacting money online. This belated opening shows that Uber perhaps didn’t hit the numbers they had hoped to, using their traditional credit card / wallet model.

Uber has problems on the driver side, too, with an increasing number of its drivers turning out to be rather rude (this is anecdata from several sources, I must confess), refusing rides, fighting with passengers, etc. Competitor Ola has started buying cars and loaning them to drivers, perhaps indicating that the driver side of the market hasn’t grown to their expectations. They are all indicative of overestimation of market size, and an attempt to somehow hit that size rather than operating at the lower equilibrium.

So an additional risk in running marketplaces is that if you overestimate market size, you might end up overdoing the subsidies that you provide to build up the market. And at some point in time you have to roll back those subsidies, which might lead to shrinkage of the market and a possible death spiral.

Now apply this model to your favourite marketplace, and tell me what you think of them.

VC Funding, Ratchets and Optionality

A bug (some call it a “feature”) of taking money from VCs is that it comes in with short optionality. VCs try to protect their investments by introducing “ratchets” which protect them against the reduction in valuation of the investee in later rounds.

As you might expect, valuation guru Aswath Damodaran has a nice post out on how to value these ratchets, and how to figure out a company’s “true valuation” after accounting for the ratchets.

A few months back, I’d mentioned only half in jest that I want to get into the business of advising startups on optionality and helping them value investment offers rationally after pricing in the ratchets, so that their “true valuation” gets maximised.

In a conversation yesterday, however, I figured that this wouldn’t be a great business, and startups wouldn’t want to hire someone like me for valuing the optionality in VC investments. In fact, they wouldn’t want to hire anyone for valuing this optionality.

There are two reasons for this. Firstly, startups want to show the highest valuation possible, even if it comes embedded with a short put option. A better valuation gives them bigger press, which has some advertising effect for sales, hiring and future valuations. A larger number always has a larger impact than a smaller number.

Then, startup founders tend to be an incredibly optimistic bunch of people, who are especially bullish about their own company. If they don’t believe enough in the possible success of their idea, they wouldn’t be running their company. As a consequence, they tend to overestimate the probability of their success and underestimate the probability of even a small decrease in future valuation. In fact, the probability of them estimating the latter probability at zero is non-zero.

So as the founders see it, the probability of these put options coming into the money is near-zero. It’s almost like they’re playing a Queen of Hearts strategy. The implicit option premium they get as part of their valuation they see as “free money”, and want to grab it. The strikes and structures don’t matter.

I have no advice left to offer them. But I have some advice for you – given that startups hardly care about optionality, make use of it and write yourself a fat put option in the investment you make. But then this is an illiquid market and there is reputation risk of your option expiring in the money. So tough one there!

Elasticity and Discounted Pricing

The common trend among startups nowadays is to give away their product for a low price (or no price), and often below what it costs them to make it. The reasoning is that this helps them build traction, and marketshare, quickly. And that once the market has taken to the product, and the product has become a significant part of the customer’s life, prices can be raised and money can be made.

The problem with this approach is the beast known as elasticity. Elasticity means that when you increase your price, quantity demanded falls. Some products are highly elastic – a small increase in price can result in a large drop in quantity. Others are less so. Yet, it is extremely rare to find a product whose elasticity is zero, that is, whose quantity demanded does not vary with price. And even if such products exist, it is extremely unlikely that a product produced by a startup will fall in that category.

A good example of elasticity hitting is the shutting down of this American company called HomeJoy. As this piece in Forbes explains, the chief reason for HomeJoy shutting down is that it couldn’t hold on to its customers when it started charging market rates:

Not only did that kind of discounting make Homejoy lose significant money, it also brought in the wrong kind of customer. Many never booked again because they weren’t willing or able to pay the full price, which ranged from $25 to $35 an hour. Homejoy changed its pricing last year to make recurring cleanings cheaper and encourage repeat business. In response, some customers simply booked at the cheaper price and cancelled future appointments.

Based on the above explanation, it seems like subsidising customers to gain traction is a bad idea, and that a business should not be willing to make losses in the initial days in order to gain market. Yet, that would be like throwing out the baby with the bathwater, for subsidising at the “right level” can help ramp up significantly without elasticity hitting later. The question is what the right level is.

A feature of many businesses, and especially marketplace kind of businesses that startups nowadays are getting into, is economies of scale. This means that as the number of units “sold” increases, the cost per unit falls drastically. In other words, such businesses work well when they have built up sufficient scale, but collapse at lower levels. For such businesses, the thinking goes, it is impossible to bootstrap, and the solution is to subsidise customers until the requisite scale can be built up, at which point in time you can start making money.

The question is regarding the “sweet spot” of subsidy that should be given to the customer in order to build up the business. If you subsidise the customer too much in the initial days, there is the risk of elasticity hitting you at steady state, and things rapidly unravelling. If you subsidise too little, you may never build the scale.

The answer is rather straightforward, and possibly intuitive – start out by charging the price to the customer at which the business will be profitable and sustainable in the steady state. This will imply losses in the initial days, since your unit costs will be significantly higher (due to lack of scale). Yet, as you ramp up and hit steady state, you don’t have the problem of raising the price which might result in elasticity hitting your business.

What if, on the other hand, the subsidy you are giving out is not enough, and you are not willing to build traction? That is answered with the “Queen of Hearts” paradigm. The paradigm says that if the only way you can make your contract is if West holds the Queen of Hearts (talking about contract bridge here), you simply assume that West holds the card and play on. If he held the card, you would win. If not, you would have never won anyway!

Similarly, the only way your business might be long-run-sustainable is if you can generate sufficient traction at your long-run-sustainable price. If you need to drop the price below this in order to gain initial traction, it means that you will have the risk of losing customers when you eventually raise the price to the long-run-sustainable-price, which means that your business is perhaps not long-run-sustainable, and it is best for you to cut your losses and move on.

 

Now think of all the heavily-discounted startups out there and tabulate who are the ones who are charging what you think is a long-run-sustainable price, and who runs the risk of getting hit by elasticity.

Mumbai breakfasts

Mumbai does breakfast like nobody else in India, or so my limited data points tell me. No, I’m not talking about the vada pav places here. I’m not even talking about the “Udipis” (sic, for that is how Mumbaikars spell and pronounce “Udupi”). I’m talking about the kind of places where you get poached eggs with yoghurt. Yes, really, that is a thing, and the number of such breakfast places in Mumbai is not funny.

I’d been to Cafe Zoe in Parel once before, a couple of years back when I met a friend for drinks and dinner there. I remember it as this “happening” place in the middle of this old mill complex, with loud dhinchak music and a rather youngish crowd. So when it was suggested that we begin our series of meetings with breakfast at Zoe, I wasn’t sure it was a great idea.

But the place inside was different (I have very hazy memories of my first visit there, thanks to the quality of its alcohol, I guess!). The skylight meant that it was rather well lit, and the music was soft and of the pleasing variety. The tables had been sparsely occupied (it’s a large place), but among those that were there, it seemed like people were working there. Laptops were out, though it was hard to find a single one not made by Apple. The place had a leisurely unhurried feel to it, and I could wait for a while without being hassled to place my order.

And the menu card told me that the place opens at seven thirty! Seven thirty! Nothing save the Darshinis are open in Bangalore at that hour. Even the Egg Factory, that wonderful set of breakfast places here, opens only at eight. And thinking back, Zoe is hardly alone. I’ve been to at least two or three similar places in Bandra that serve “hipster breakfast” well-at-a-leisurely-pace. It seems like such breakfast places are more like the norm in Mumbai.

And it is not hard to reason why – simple revenue management explains it. Real estate in Mumbai is so prohibitively expensive that rents form a huge part of restaurants’ costs. And given that it is a fixed cost (you pay the same rent irrespective of how many customers you serve), a good strategy is to “amortise” it – across a larger number of customers. Other costs of running a restaurant, like labour and cost of food, pale when compared to the cost of rent.

In a situation with high fixed costs, it makes no sense to utilise your resource only part of the time. Whether your restaurant is open for four hours a day (as some are) or for all the time local regulations permit you to be, the rent you pay is the same. And in the latter case, you are making much greater use of the fixed-cost resource at hand, which is a prudent strategy!

Opening for breakfast probably means adding an extra shift (or half a shift) for staff. It means running the restaurant at a time when there is no chance it is going to be full. It means keeping the kitchen open all the time, and “normal” principles of restaurant management probably suggest it’s not a good idea. But when your fixed costs are as high as they are in Mumbai, it makes sense to marginally increase the fixed costs (by paying for additional staff cost) in exchange for making significantly superior revenues.  And that is what the likes of Cafe Zoe do!

Utilisation at non-peak (non-lunch, non-dinner) hours is never high (except maybe on Sundays), but what matters is it being strictly positive. Low utilisation means it gives a leisurely feel to the place, and customers can be allowed to linger. People use the place as a meeting spot (coffee is very reasonably priced there, and you can get beer to fuel your meetings!). From the looks of it, some others use it as a workplace. And all this results in revenues for the restaurant, valuable when real estate costs are so high!

Surely other cities, such as Bangalore, can do with such places. In Bangalore, for example, there is a severe paucity of places to do breakfast meetings at. Traditional South Indian places are too hurried, and buffets are never a great place to do meetings (five star buffets have turned out to become a kind of “standard” place for breakfast meetings). There is the egg factory, of course, but there is none else! We could surely do with some of our “lunch restaurants” opening up for breakfast. Just that real estate costs here don’t offer as compelling a reason as they do in Mumbai!

And for the record, the poached eggs with yoghurt was absolutely outstanding. At least I hope the Egg Factory manages to replicate that here!

Cabs to airports

Early yesterday morning I had a minor scare when Mega Cabs stood me up. I had a flight to catch at 7 am to Mumbai, and had booked a Mega Cab for 5am. This was after consulting a few friends who are frequent travellers on Monday mornings, who advised that finding an Uber or Ola at 5am is not particularly straightforward. I must mention that I haven’t done business trips for a while, which means I haven’t had to catch 7am flights, so the last time I took one such flight was before Ola/Uber became big in Bangalore (October 2014). And I’ve always preferred Mega to Meru since their cabs are relatively better maintained and more prompt.
And then Mega stood me up. The assigned driver Nagesh N never called me, and when I called him, didn’t pick up. I didn’t panic, since I knew I could get a cab on Uber or Ola, except that neither had any cabs available. I called Mega customer care, who promised an alternate cab at 5:15 (still leaving enough time to get to the airport and catch my flight). But then I received an SMS saying that I’ll get a cab at 6:15. Rather than arguing with Mega, I tried Uber once again, and this time I was in luck, finding a cab that would take me to the airport at a surge of 1.8X (80% more than the “normal” fare).
So on the way to the airport I got talking to Kumar, my Uber driver, about the economics of cab rides in Bangalore, and airport trips. As I had mentioned in my earlier post on Uber’s new pricing model, the reduction in per kilometer fare and increase in per rupee fare has meant that an airport run is normally not remunerative for an Uber driver. Add to this the fact that Uber’s bonus payments to drivers are on a “per trip” basis rather than a percentage or distance basis, that a driver reaching the airport at around 6am has to wait for at least a couple of hours to get a passenger to ride back to the city, and that Uber’s new bonus structures that began today not paying much incentives for trips before 7 am (this was told to me by Kumar), drivers have responded by simply not switching on their Uber systems at 5 in the morning, when the likelihood that any trip is an airport run approaches 1.
This is clearly inefficient, and  consequence of bad pricing on behalf of Uber. On the one hand, drivers are denied opportunities to carry customers over long distances, which is an airport run. On the other, customers are inconvenienced thanks to the lack of cabs, and have to rely on the otherwise rather unreliable and mostly unused Meru or Mega cabs, whose cars are of poor quality and drivers unresponsive. A lose-lose situation. All thanks to bad regulation (read my post in Pragati on how Uber is like a parallel regulator).
The solution is rather simple – an airport surcharge. Any trips to or from the airport on Uber can be slapped a further surcharge (of Rs. 200, perhaps). Such a surcharge will make the ride remunerative for drivers, while at the same time still keeping Uber much cheaper than the likes of Meru or Mega. In fact, this morning’s trip, after the 1.8X surge, cost me Rs. 780, which is cheaper than what it would have cost me if Nagesh N of Mega Cabs had not ditched me, and I could pay in a “cashless” manner, directly from my Paytm account. It’s a surprise that Uber hasn’t yet figured this out, given all their “data science” prowess!
Update: 
A friend who I met on the flight told me that in his town (Whitefield) it’s not hard to find an Uber/Ola cab at 5am on Mondays, except that the drivers cancel rides once they figure out it’s for an airport drop. Again pointing to the fact that incentives are not aligned for maximum throughput

Coffee Pricing Dynamics

I had alluded to this coffee price war once before, but I believe it deserves fuller treatment, hence this other post. This is to do with the two coffee shops facing each other at the concurrence of 7th Main, 30th Cross and the “Diagonal Road” in Jayanagar – Maiya’s and Hatti Kaapi.

So Maiya’s opened for business sometime in 2008-09 (this was the period I was out of Bangalore, and it was there by the time I returned). On the ground floor, one the side, they opened a counter where they sold coffee. It was an efficient operation – you line up, buy the token and then move over to a window where you get unsweetened coffee in a ceramic cup, to which you add sugar as per requirement and move on. The coffee was generally excellent and pricing was always premium. In August 2014, when I started patronising it on a regular basis, a cup of coffee cost Rs. 18 and ten minutes of waiting (in line).

A month or two later came Hatti Kaapi, right across the road and facing Maiya’s. Hatti priced their coffee at Rs. 10 per cup, served in a glass tumbler. Sugar was pre-mixed into the milk, though you could ask for your desired level (no sugar, “less sugar” or “normal sugar”), which would be produced as a linear combination of sweetened and unsweetened milk. Hatti Kaapi served snacks also, and presently expanded its line selling cold coffee, juices and the like. Hatti has a larger customer-facing window than Maiya’s so the operations are rather smooth.

While people might have expected Maiya’s to drop their price in view of this newfound competition, they didn’t, though the cost of a cup of coffee for customers came down – from Rs. 18 and 10 minutes of waiting time, it came down to Rs. 18 and 5 minutes of waiting time. While several erstwhile regular customers crossed the road to the cheaper Hatti, based on anecdata (length of queue every time I go for a coffee, which is about once a day), it is unlikely that Maiya’s lost customers. The presence of two quality coffee shops close together possibly expanded the market and all seemed good.

However, it seems like Maiya’s decided that Hatti had got a competitive advantage by way of serving snacks along with their coffee and decided to replicate the strategy (note that Maiya’s has a full service restaurant upstairs, but this is about the “quick-coffee-and-snacks” market). So they started giving combo offers, where you would get a hot fried snack (choice of bajji, bOnDa, samosa and the likes) with coffee for Rs. 25. The snack would be served out of the same tiny window that served coffee, on paper plates with plastic spoons.

I must confess I’ve never purchased the combo (despite the attractive pricing; the snacks don’t look attractive enough to me), but I’m not sure about the impact that it’s been having on Maiya’s overall sales. I go back to anecdata (for I have no other data; and in my defence I have a large number of data points), and it seems like the average queue length at my arrival has remained the same from the time before Maiya’s started serving snacks (and after Hatti opened). However, I find that the total time taken in queue is now significantly higher – closer to the ten minutes from the time before Hatti’s setting up than the five minutes in the intergennum where Hatti was open but Maiya was not serving snacks.

And from my observations there, this is because the snacks have now messed up Maiya’s operations. Earlier, it was simple and linear. It’s a small passage where the Queue goes in a U-shape (unfortunately I haven’t taken pictures, and can’t find any online). At the base of the U is the cash counter and then you move to the side to get your coffee. A nice linear queue.

Now, snacks are served from the same window as the coffee, and since not everyone buys them, the ordering is broken. Also, it is the same token in which people have to get snacks and coffee at the same time, and that disrupts the queue further. Then, there are people who come back for their coffee later having taken the snacks earlier, and thus go straight to the coffee counter without going to the cash counter, messing up people’s expected wait times and leading to further chaos. In other words, thanks to serving snacks, the service time at Maiya’s has gone up, while the utilisation of the barista has gone down.

Hatti, on the other hand, makes full use of its corner location such that snack service doesn’t disrupt coffee service at all.

So the coffee at Maiya’s has effectively become more expensive again (Rs. 18 and 10 minutes), and with declining utilisation, my sense is that they are making significantly less money from their coffee counter now (including snacks) than they were before they started selling snacks. I really hope they will be able to simplify the operations of their coffee and snacks counters, else they risk losing more customers to Hatti. But then it seems like the snacks have become especially popular with Maiya’s regulars, so undoing the snacks service is also not an option.

Finally, here is a piece by the New Indian Express on this price war. As for me, I still prefer Maiya’s – the difference in quality of coffee does it for me. But if they don’t improve their operations soon enough, I might make the switch across the road.

On Sony Six telecasting Pacquiao-Mayweather

Summarising the blog post:

1. Having paid for the rights to the fight, the incremental cost of showing the fight to a customer is negligible, making this a great case for “revenue management”.
2. Each television market is independent, and in each the holder of the rights indulges in “monopoly pricing”. The monopoly price for the US is $~100. For India, it is close to zero. 
3. Television is a two sided market, and by offering the content at Zero rupees in India, the rights holders are maximising the sum total of what they can earn from viewers (subscription fees) and what they can earn from advertisers. 

Now for the harikathe:

So the much-awaited bout between Manny Pacquiao and Floyd Mayweather is going to be telecast on Sony Six tomorrow, as per this tweet:

Some people are surprised that this fight is being telecast on a “normal” sports channel in India, considering that elsewhere in the world it is being mostly telecast on pay-per-view channels, with the payment for one connection running close to a hundred dollars. Yet, in India, we will get to see this without shelling out any incremental cost over what we have already shelled out to receive Sony Six (and most people who are interested in the fight are likely to have already subscribed to the channel since it telecasts the ongoing IPL. The difference between {people who want to watch Pacquiao-Mayweather} and {people who want to watch IPL} is infinitesimal and can be ignored).

So why is it that a fight that is being sold at an exorbitant premium in most places in the world, and billed as the most sought after boxing bout in over twenty years, is being shown at a throwaway price (close to zero) in India? The answer is simple – revenue management.

For the holder of the telecast rights of this fight, having paid for global telecast rights, any further costs of telecasting to an additional television set are marginal. In that sense, any marginal revenue that they make from the further sale of these rights goes directly to their bottom line. Hence, this is a classic case for “revenue management”, where they will try to maximise the revenues from the rights they hold.

Given that they hold monopoly rights over telecast of the bout, we can expect them to follow “monopoly pricing” to price their product. Monopoly pricing, as the name says, is how a monopoly would price a product, which is literally true in this case. For every price point, there is a certain demand, and monopoly pricing prices the product at a level that maximises revenue (price x quantity). And considering that television rights are usually at a national (or even sub-national) level, monopoly pricing can mean that there are different prices in different markets.

The US, for example, is a market that has an established model of pay-per-view, and the price they’ve arrived at there (of USD 90 per connection, or whatever) is a function of this history. Based on historical responses to such events, and what people have indicated as their willingness to pay, this rate has been arrived, and from what I notice on social media, it has probably been successful in terms of raising revenues.

In a market like India, however, firstly there is no established pay per view model, and no “channels” for exhibitors to show pay per view content (Tata Sky Showcase might be an exception but it’s too niche). Moreover, boxing is also not that big in India – while Indians (like me) might be interested in big fights like this one, it is not as big for us to actually pay money to watch. In that sense, even if the channels had offered this fight at a low (but non-zero) price, the uptake would have been small.

In other words, for an event like this one, the “monopoly price” that the owner of the content could charge in India would be extremely small, and even at that price, the number of people watching would have been small, leading to small revenues.

But then television is a “two-sided market”. The content is simply a platform to bring together the advertiser and the viewer, and the amount that an advertiser will be willing to pay for an advertisement can be considered to be proportional to the viewership. In India, where the volumes for a non-zero price will be low, the price that the broadcaster can command from the advertiser will also be similarly low, leading to low revenues all along.

Instead, by offering the rights to Sony Six, which will offer the content for “free” for all its currently existing viewers, the owners of the rights are ensuring that a significantly positive section of the population is going to watch the fight. Which in turn means that a significant premium can be extracted from advertisers, which will form strictly positive revenues for Sony Six, a part of which will go to the global rights holders. And these revenues are significantly greater than what the rights holders would have achieved in case the content had not been offered at all in India.

 

Making Zero Rating work without disruption

The Net Neutrality debate in India has seen a large number of analogies being raised, in order to help people understand and frame the debate. Internet services have been variously compared to television, postal services, highways, markets and what not. Things got so bad that that at some point in time people had to collectively denounce all analogies, for they were simply taking away from the debate.

One of the analogies that were being drawn in an argument in favour of Zero Rating was to compare it to e-commerce companies that provide free shipping, for example, or the deep discounts provided by services such as Uber or Ola. If you ban zero rating, other legitimate activities such as free shipping will be next, critics of net neutrality argued, arguing that there would be no end to this. The counter-argument is that free shipping doesn’t disrupt the basic structure of the market while zero rating does. Here is a way in which zero rating can be made to work without disrupting the market.

And it is a rather simple one – cash transfers. Rather than an e-commerce company subsidising your browsing of their website directly (by paying the telecom provider to make your access free), they can instead refund your costs of browsing their sites in terms of a discount. Going back into the analogy space, this is similar to malls that charge you heavily for parking but then offset your parking fees against any purchase you make in the mall.

So Flipkart, for example, can estimate the amount of bandwidth a particular user would have spent in browsing their app (not hard to track at all, especially if the user uses the app), and any purchase on their site can be appropriately discounted to that extent (and maybe a little more to cover for browsing that didn’t lead to a purchase).

This works in several ways. In the current proposed model of Zero Rating, the e-commerce company doesn’t know how many users will access it, using each ISP, so there is uncertainty in the amount that they have to pay the ISPs for such access. By moving to a user-wise subsidy model, they know exactly what users are using how much, and this enables them to target the subsidies much better. Another way in which it helps the retailer is that it doesn’t waste money spending on bandwidth for people who only browse the website without buying (of course, if they wish to, they can subsidise such usage also, but since it can be so obviously gamed, they won’t do it).

More importantly, what such a system ensures is that the internet is not broken. You might recall my earlier post on this topic that zero rating results in “walled gardens” that leads to a broken internet which reduces the overall value of the internet. With a cash transfer scheme (rather than direct subsidy), such distortions are avoided, and the internet remains “free” (of any barriers, not free of cost) and maximum value of the internetwork is realised.

So as described above it is well possible for e-commerce players to subsidise users’ browsing of their apps without distorting the internet, and without using zero rating. And as shown above, doing so is in their interest.

PS: This post also came out of the same discussions from which my earlier post on 2ab had come out.

How Long Tail affects pricing

My late mother never shopped for fruits and vegetables in the Gandhi Bazaar market. She found that the market was in general consistently overpriced, and if we look at the items that she would buy, it is still the case. For “normal” stuff, you are better off going to nearby “downmarkets” like the one at NR Colony, or even Jayanagar Fourth Block.

So why is the Gandhi Bazaar market overpriced? The answer lies in the long tail. In the book of the same name, Chris Anderson talks about products that are not the most popular, but which has a niche demand. In that he talks about companies such as Amazon or Netflix which are successful not because they do a better job of selling the “bestsellers” but because they are able to service well the “long tail” – items that are not found elsewhere thanks to the high cost of selling.

In other words, it is a liquidity story. If the neighbourhood kirana, for example, wants to sell olives, his costs are going to be high as the rate at which he sells olive bottles is going to be so low that his inventory costs are going to increase, and the risks of ageing and spoilage of inventory also goes up. And he has to spend that much more manpower and effort in managing this extra item, so he decides to not sell this item at all (he will have to charge such a high premium to sell such goods that it doesn’t make sense for the customer to buy it).

Yesterday I bought an “imam pasand” mango in Gandhi Bazaar. Now, this is not one of the “standard” mango varieties that are available in Bangalore. In fact, I had never in my life eaten this variety of mango until yesterday, for the simple reason that it is not generally available in Bangalore. The fruit stall in Gandhi Bazaar, however, stocked it. A neighbouring fruit stall was where I used to source the Dashehri mangoes (common in North India but rare in Bangalore) a couple of mango seasons back. Avocados, which are generally hard to find in “traditional” retailers in Bangalore were also available in every fruit stall in Gandhi Bazaar, as were other not-so-common fruits.

So why did my mother find Gandhi Bazaar expensive? The answer is that the fruit sellers at Gandhi Bazaar stock the “long tail” because of which their general costs of inventory are high compared to competitors who don’t. Thanks to the range, they will have a large number of customers who come to them to buy specifically these “long tail” items. And while they are at it (buying the long tail items), they also end up buying some “normal” items. Customers who come seeking the long tail are usually those that are willing to pay a premium, and thus the shops in Gandhi Bazaar are able to charge a premium for the non long tail items also.

 

Thus, if you purely look at rates of “common” items, Gandhi Bazaar, a market which offers the “long tail” will always be more expensive than other markets. Anecdotally, along with the Imam Pasand yesterday, I also bought a kilo of “vanilla” Raspuri mangoes, at the rate of Rs. 100 per kg. At the shop down the road, Raspuri was available for Rs. 90 per kg. The shop down the road, however, doesn’t stock Imam Pasand, which means that the price of Imam Pasand in that shop is infinity.

So if you are only looking to buy Raspuri, you are better off going to the shop down the road. If you either want only Imam Pasand, or both Imam Pasand and Raspuri, though, you should go to Gandhi Bazaar! In other words, the “range” that the fruit seller in Gandhi Bazaar offers implies that he can get away without discounting. Theoretically speaking, though, we can say that the fruit seller in Gandhi Bazaar actually discounts on the long tail items by the sheer act of stocking them (thus dropping their price from infinity to a finite number), and he is using this discount to sell his “normal” goods at “full price”. Ruminate on it, while I go off to devour a mango!