Category Archives: business modeling

Club Pricing

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Paul English is peeved about what a pain in the neck it is to buy a membership in a health club. He asks “Why the sleaze?”

Here are some theories:

  • Low barrier to entry means too many health clubs; i.e. excess supply, leading to sleazy marketing practices as they desperately attempt to survive.
  • Lack of consumer protection laws or enforcement removes the only effective negative feedback on the sleaze.
  • Testosterone and steroids.
  • The subscription pricing models (i.e. lock-in and upfront discounting) is sleazy out of the gate, it’s all down hill from there.
  • Clubs that adopt aggressive value pricing are more sustainable than those that don’t. The more aggressive the more sleazy.
  • Matching price/user to cost/user is impossible, all attempts to do so look and often are sleazy.

Clubs are the text book response to the standard list of problems with of public goods, e.g. overcrowding, under provisioning, free-riding, etc. It’s fascinating that in this example the club doesn’t resolve those problems; it just reframes them. The presumption is that once you are allowed into the club you will find a world where facilities and services are abundant and collegial; i.e. you will enter a world where the facilities are now a public good. You won’t be excluded and there won’t be rivalry. The water in the pool will be warm and you won’t have to double up in the lanes when you swim. Piles of towels will be close at hand. The exercise equipment will be standing by and dependible when you need it.

Most of the health clubs I’ve experienced fail to achieve the eden like fantasy. They are under provisioned and overcrowded at the hours when I would show up. Interestingly the lanes in the pool would be occupied by people who used them for hours every day, in effect free-riding on the membership contributions of people like me.

These clubs have terrible pricing problems. They would like to charge people for the value they extract from their facilities, including the value of reducing their guilt by having a membership even if they don’t use it. Of course they don’t mind if they over charge. The more they can push their prices up toward that goal the better the facilities they can provide will be. That’s all reasonably virtuous.

I have a bad feeling that the distribution of load imposed by the customers is power-law in shape; but the willingness to pay isn’t. Which is why on the high end you get the heavy user free-loading illustrated above. On the low end you get a long tail of users who are charged far more than they will ever consume in services. The entire thing’s a mess.

I have noticed that some very high end hotels have health clubs that don’t suffer from these problems. They, presumably, are subsidized by the hotel’s guests. In a few cases they even sell a reasonably priced membership in a transparent fashion.

The YMCA is a good special case. As a not for profit they can do their value pricing by using needs based analysis. Their prices are clearly stated on a sheet of paper at the front counter. At the bottom of the sheet it invites you to speak with them if you can’t afford the price they are offering. At the same time solicit donations from the better off members of their community. It’s interesting how this doesn’t suffer from the sleaze problem. It also means that when you gain entrance to the club and the public good isn’t as wonderful as you might hope your reaction isn’t that you have been mislead, but rather that a group of good people are doing the best they can with limited resources. Which, if your well off, might lead you to donate.

At the same time the Y’s model for how to fund the club doesn’t resolve some of the problems outlined above. They still have some members who draw off 100 times more services than others – i.e. free loaders. And the club are always a bit under provisioned, the water a bit chilly, the equipment a a bit run down. The community is generally very convivial; particularly if it makes you happy to see hordes of elderly and children using the club around you.

The private health clubs have eroded some of the communities common cause around the Y. That has weakened the Y as an institution. For example the Y wasn’t able to raise money to build a new branch in downtown Boston recently.

Enabling Agency

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Agency is a puffed up word used to way to say that somebody else is doing the work for you. A real estate agent, for example, sells your house for you. The paranoid worry that agents won’t manifest exactly your best interests as they do the work.

The other day I overheard somebody saying he wanted to allow users of his site, call it A, to give permission to other sites, call them B, to push and pull information from A. That ought to be common, but it is not. eBay has a scheme for doing this; but that maybe the only example I’ve seen in the wild of what ought to be a common pattern.

For example say I wanted to delegate to a B site permission to scan my email for important messages and when it finds them it should send me SMS. For example say I wanted to give permission to site hosting my blog permission to pull URLs from my private bookmarks site. For example I want to give permissions out so that my blogging and email sites can collaborate to make posting something I got in an email more trivial.

The usual, and extremely lame work around for this is for site B to ask for my user name and password at site A. Site B then visits site A pretending to be me and get’s the data it needs. That’s bogus because it grants site B far more power to act on my behalf than is desirable. This is the “Here let me help! Oh, I’ll just need to steal your identity.” approach.

Better systems aren’t hard to build. For example Site A can have a page that the user fills out to state: “I grant site B the following rights to act on my behalf for the following period.” Submitting that page results in site A coughing up a big number, in effect a ticket (technically it’s called a capability). The user gives the capability to site B.

Just a small matter of standardization?

Actually no. These such simple systems that standards, while nice, aren’t really necessary. All site A needs to do is keep a table recording the capability tokens it has handed out. When site B wants to do work as the users agent it works directly with site A. The best news is that it does not have to lie. It no longer needs to masquerade as the user. Site B authenticates with site A using it’s own account. Site A knows who it’s working with. When B wants to do some work for the user it includes with it’s request the Site A capability token it got from the user.

Site A then has to check if the requested operation is approprate; e.g. timely, within the rights the user granted, and something Site A currently trusts Site B to do. Site A can then lookup who the user is and do the deed. Site B never need know the user’s identity at Site A.

I suspect the real reason this is so uncommon is that site A doesn’t really want to relinquish data to site B; it would rather horde that data and the options for what to do with that data closely. In the dreams of site A’s product managers holding the data enables them to lock the user into a more bundled solution. Capablities help temper this concern, notice that Site A can negotiate with Site B over time to reach mutually advantagous deals.

Small sites should do two things. They ought to enable this kind of agency because it will create complements around their offering; while complements always make your offering more valuable they also let small sites collaborate to create integrated experiances that currently only huge portals can. The second thing they should do is just as important though. They should be prepared to limit partner site access in scenarios where it becomes clear that they are taking more than they are giving back. I.e. some sort of peering agreement would be a good thing.

If small service sites can enable this kind of activity highly cool highly integrated services will emerge quickly, much more quickly than the product manager at any tightly integrated centralized site can manage to implement them.

Fear of agency v.s. fear of concentration – damn’d if you do damn’d if you don’t.

(thanks to the three people who noted typos so far)

town cable contract

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The cable company’s ablity to lock its customers is improved by selling phone and internet service as well as television. If take all three and you want to switch you need to coordinate the switching of all three services, which is amazingly hard. The television is the least sticky of the three, since there is always broadcast television as a fall back. The phone company plays a similar game around here where it is practically impossible to get internet via DSL without also paying for a plan old phoneline. Subscription customers who are well locked down are great revenue generators. You can entice them into your system with huge discounts. The vendor discovers that he can raise prices and they don’t bolt. Higher prices increase the size of the discounts you can offer up front.

There is another player in this game; at least around here. The town grants the monopoly to the cable companies by negotiating a lease for the right to string all those wires. The cable company pays for the right by providing a community access channel, and donating internet acess to various public enterprises around town.

We are currently negotiating the next N year lease. The cable company is being very agressive about reducing what it pays us. Clearly they see the town as being just as locked in as its customers are.

It makes me wonder what the town’s BATNA (best alternative to a negotiated agreement) is in this case. What happens if we decided not to grant the cable company a new license.

Maybe we should run our own. I assume we could not provide all the same TV channels that the current dominate provide does. I assume we couldn’t pick up the ball, or switch to another vendor without some service interuption. Which implies cutting off some residents phone service.

My town is exceptional in that it has two cable companies. The cable company guys will scold you if you complain about the mess on the telephone polls. “Utility Polls!” they will say. The polls are a mess. This extra degree of freedom doesn’t seem to change anything in a meaningful way. One effect is notable though. The community access channel isn’t on the #2 cable company and the community members who run the channel want it to be; so they are a large part of the constituency fighting for a more generous cable contract.

Your Child Recliner Has Grape Jam on It!. Seller Financing.

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Jealous of all the press bird flu’s been getting the blog-o-sphere ecology has evolved splogs. They are causing congestion of my pubsub queries. Today’s title: Your Child Recliner Has Grape Jam on It!. Seller Financing.. Many of my pubsub queries are coughing up a steady phlegm of splogs, bu it could easly get worse. Just remember the great spam plague of 1998; millions of email addresses died!

Lets toss two terms into the pot. “Dominant design” and “convergent evolution” into the pot. In part because I want to drop them into ye olde blog. But mostly because the provide an entry point to I want to get off my chest about bird flu.

Dominant design is a term of art among the folks who think about innovation. Dominant designs emerge in design spaces as innovators progressively “mine-out” the options in the design space. Once the dominant designs emerge it becomes possible for complementary activities to gather around them – i.e. they create new design spaces. I like the term because it avoids calling these the best designs. The emergence of dominant designs is extremely contextual and path dependent. Owning the dominant design, being the early into that part of the design space, and encouraging the emergance of the compilmentary stuff is all part and parcel of the gold rush in and around one of these design spaces. Careful though. It is rare tha a single dominant design emerges from a design space; more typically a bloom of designs emerges. How skewed the user’s adoption of these designs turns out varies. There are, for example, a handful of dominant designs for operating systems. Typical power-law stuff.

Covergent evolution is the name given a pattern observed in nature where two very similar species (or organs) evolve in widely seperate environments. The design of the two species converges, presumably, because the two niches place analagous pressures on their evolution. Examples of convergently evolved species can be quite disconcerting. When traveling in Ireland many years ago I found it bizzare how some of the birds would behave almost identically along the forest edge to those in New England. If they had behaved exactly as the birds at home that wouldn’t have bothered me; but in Ireland they would dart in slightly different patterns. Which would trigger for me a startle reaction. These days I often experiance something analagous when talking to people from differing developer communities. For example both Apache and Wikipedia appear to have covergently evolved some community norms the might be filed under “convival.” Or, for example most commercial developer networks begin with a focus on developers (aka hackers) but then there emerges a parrallel network that nurtures the relationship with the folks who market the products built on the platform.

Dominant design is a way to think about the shape of systems over time. You can expect to find dominant designs in any reasonably system (market, institution, ecology, whatever). You can expect to see conflict about what designs will be dominant in systems that haven’t stablized. Users attempt to time their choices about when to adopt depending on these signals about how stable things are; and the appearance of dominant designs is just such a signal.

Convergent evolution is a way to think about where to go to get ideas. Similar ecologies can be expected to be rich sources for patterns that are likely to work in your home community. While gene splicing design patterns is easier than teaching Irish birds to fly right it’s still real work. It often fails because it’s easly to over simplify and presume that a the other system is like your own when on closer examination that presumption would fall appart.

Ok, so about that bird flu. The standard story template in the media about bird flu is to tell the story of the 1918 flu pandemic. The fear that nature’s random number generator will mutate the current flu into a form that is virilent in humans. This fear plays on our intuitions about both dominant design and convergent evolution. Do either of these make sense?

We know that systems tend to settle down with one or more dominant designs settling out. But I don’t see how that is a reasonable expectation in this case. Two forces drive things toward a dominant design: fitness and complements. While an operating system has complements a flu doesn’t. So is a more virilent flu more fit?

Of course a flu virus doesn’t engage in longterm planning, but the 1918 flu was obviously too virilent for it’s own good. That’s why it went extinct; it burned bright, fast and out.

Our intuition that this flu will converge to the same design pattern as the 1918 flu is all well and good, but it only leads naturally to the next question. What niche did the 1918 flue arise in. What niche encouraged so virilent a beast. There is a good discussion of just that question in Paul Ewald book.

He argues there that it is entirely possible that the 1918 flu evolved in a very very unusual niche; i.e. the one created by the allied army in support of the trench warfare of the first world war. It wasn’t that the trenchs were a squalid venue; those are common. What was unique about that niche was the tremendously vigorous mixing of flu victums.

To survive a flu virus needs to strike a balance; it must be mild enough to assure it gets passed onto lots of other victums. So the good news is that this tends to temper how virilent a virus of this kind (air infection) becomes. Ewald’s guess about the 1918 virus is that because when a young soldier fell ill with a virus in the trenchs they would toss him in a truck and then bucket brigade him to a series of hospitals. This bucket brigade assured that the virus got to infect a lot of other people. This environment encouraged the virus to evolve toward a more and more virilent strain. First off because it didn’t suffer the negative consequences of high virilence, i.e. lossing the opportunity to infect a large follow on population. Second because high virilence increased the chance the victum would be pulled out of the trenches; giving the virus an impoved chance of infecting a large follow on population.

It’s not hard to see how the hyper dense bird farms of modern agriculture offer an analagous niche for evolving virilent strains of bird flu. Sidebar: the word selfish doesn’t quite seem to be the optimal label for the practice of feeding generic anti-viral drugs to farm animals.

The important question about bird flu in humans is two fold. How far in the flu design space does the existing bird flu need to travel to be virilent in humans; and are we providing a niche that rewards traveling in that direction? We are not running a 19th century European trench war, so that’s good news. Not that I really know anything about the evolutionn of infectious diseases but it appears to me that both the intuitions that drive the fear about bird flu don’t stand up to casual closer examination. Of course, casual isn’t a very good strategy for risk management.

Bypassing the Toll Booth

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The business model I find most facinating is the two sided network effect; where the business acts as a middleman or a distribution channel between two distinct groups. eBay is my standard example bridging between buyers and sellers. Single’s bars where men and women rondevous are another fun example.

I often use the example of a bridge with a toll booth as a way to help visualize this model. I often emphasis the role of the two cities that grow up on either side of the bridge; the complementary industries. Other times I emphasis the role of discrimitory or value pricing as a means for the bridge owner to encourage a larger network. For example bridge owners will agree to lower prices for travelers with an alternative, i.e. those who aren’t locked in. Bridge owners will cheerfully lower prices for travelers who, like the poor, who don’t derive significant value from their travels.

The media business is member of this class of business models; bridging between entertainment producers and consumers. Technology has been lower the cost to create substitute bridges and they have been desperately striving to avoid displacement.

In their thrashing around one technique they have been trying is digital rights managment. This tactic has lots of problems; in particular it misses the point entirely: their bridge is now irrelevant. DRM is a strange attempt to use technology to create chasm which the industry can then offer to bridge; it’s all backwards.

But, there is another problem with DRM. It doesn’t play well with pricing. Nobody in the bridge business wants to charge his entire universe of users the exact same price. Such a strategy would be fatal, at least in the presence of competition.

Pricing in network businesses is a balance between extracting taxes from the network while assuring that your bridge is carrying the most and best traffic. When two fo these bridge businesses compete the one that strikes the balance best wins. Most niave approaches to DRM ties one arm behind your back.

So this story is no suprise Musicians tell how to beat system (Bruce Schneier).

First off it’s obvious that Musicians would be happy to tell their listeners how to get around the bridge; because any information about alternative routes over the river has two positive effects for them. It helps them reach more of their customers and grow their own networks. More interestingly it improves their ability to negotate with the bridge owner – lowering his tolls and increasing their cut.

The second part is more interesting though.

Sony BMG says it is not trying to prevent consumers from getting music onto iPods. Fans who complain to Sony BMG about iPod incompatibility are directed to a Web site (http://cp.sonybmg.com/xcp) that provides information on how to work around the technology.

So Sony cuts the iPod owners a break because it would be very bad for Sony’s network.

Another Hub for Verisign

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The Verisign acquisition of the original hub for blog pings ought to deeply concern the high volume ping producers and consumers around Feedmesh. Verisign knows hubs. It has exceptionally large market share of two of the key Internet hubs DNS, and SSL key signing. They know how to encourage further consolidation of those hubs. They are willing to agressively go after revenue, such as selling advertising on every misspelling of a domain name under their stewardship. They are very active in the supply chain RFID space, where we can expect to soon see a bloom of blog-ping like traffic.

The most central struggle in Internet systems is between the architectures dependent on a central authority and those known collectively as end-to-end; i.e. those where the ownership is left with those on the periphery. That choice is not a boolean; there are plenty of architectures that leave large midsized players in the system.

The central authority advocates always emphasis the same things: reliablity, policing, simpler. It’s always simpler to just ask the landlord, and sometimes that works. So Verisign writes about reliablity: “Those days have passed at least for the popular ping servers; pings are well on their way to requiring serious infrastructure. That’s where VeriSign comes in.” Policeman: “there are an enormous number of splogs out there, and the number is growing faster than the number of real blogs.”

The key balance between central and periphery designs is around who owns the rights to innovate an who captures the revenue from those. So Verisign writes: “… a host of new opportunities for delivering network services in a user-friendly (and often user-powered) way. In order for that to happen though, there’s a lot of work to be done underneath the application layer.” That’s the Microsoft slogan “Your potention. Our passion.” Which I can’t resist reframing as: “You take the risks, we’ll take the profit.”

It’s a shame that Dave Winer’s failed in his aspiration to solve the scaling problems without an acquision. The complexities of collabrative open institution building aren’t really his strong suit; he’s a different kind of entrepreneur.

The struggle between concentration toward the center and diffusion toward the periphery isn’t just driven by technology. We make the bed we sleep in.

The Gap

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I need a word. A term I’d presume exists in economics. If you say the supply or price of X is changing it triggers a nearly  superstitious  invocation of faith in markets that they will adapt. The word I’m looking for should help to characterize that adaptive process.

To a degree this is a tautology. If the supply of natural gas this winter is 8% less than last winter then it is necessary for 8% of the demand be removed from the natural gas market.  That process goes by assorted names. Demand destruction, for example. If people insulate their houses and close off the extra bedroom, if people switch to annual billing, run up the credit card debt that’s another, if people freeze to death in their homes it’s all just demand destruction. But, in those examples, the variance in the social welfare is huge.

In the modern world we often look to technology to  accelerate, and reduce the pains of adapting.  But, “Technology  will save us” is small comfort if you freeze to death in your bed in the  interim. If technology were the only source of adaption then I could call the term I’m looking for “the technology gap.” Maybe the term is adaption gap. During the gap, people are freezing to death.

So broadly the term I’m seeking might be defined as the estimated interval between two events. The first event is when the market gets the signal the things have changed.  The second event is when the market reaches approximately the same level of social welfare.

For some markets and signals the gap is small. When the price of European cheeses rises and American consumers switch to alternative luxury goods the demand destruction is fairly benign.  So unless  you’re  running a cheese shop since the social welfare is hardly effected and the gap is minor. If your own a shop in a small town and Walmart opens on the periphery you die, and the gap is very large. You may never recover the same level of social welfare. You complementary economic actors (suppliers, employees, landlord, local tax authority, etc) may recover, but only after a very extended period. In the Walmart story the economy at large might actually see a total rise in the social welfare – it being a widely held belief that lower prices are a good thing.

Of course we lack good metrics for social welfare. It’s about this point that one comes to suspect that there isn’t a term in economics for this.  Albert Hershman talks about this question a bit near the beginning of one of his books.  He pointed out the lack of any research proving that firms react to market signals.    Countering the point that it’s too obvious to need research he points out that firms might ignore weak signals.  And that strong signals may kill them.  How big is the band between those two cases

To cut to the chase. The lack of a term like ‘technology gap’ or ‘adaption gap’ is a serious problem when it comes to trying to talk thru the consequences of this or that shock to the society. How long does it take to adapt to a major event? A 4% drop in available oil and gas every year for a decade, say?

The lack of a term means the discussion quickly implodes for lack of a problem to focus on. One camp arguing that economic and social systems adapt, smiles and move on. Another camp points out that people are dying here; and settles into a tar pit of gleeful cataclysmic story telling. Finally a third camp’s emotional center is their enthusiasm for this or that technological silver bullet. Faith, panic, and enthusiasm are not problem solving. How to reduce the gap and thus minimize to total impact on the overall social welfare; that’s the problem – but what to call it?

Idle Hands

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Recently I assembled a bridge in between my interest in business models and my interest in the wealth distribution. Business models span some space of actors, coordinating their actions, driving actions with motivations of all kinds. If we rope in other institutions (church, state, professions for example) we need to reframe these as institutional model.

The sum of these models creates the distribution of wealth. That’s the bridge, but the consequence is how this ties to ethics. In the search for interesting business models the holy grail is the business model that once added to the societal sum increases equity rather than decreases it.

Ethics permeates the work of those actors who labor to shape institutions: Entrepreneurs who labor to make new institutions that respond to observed institutional failures, critics who attempt to illuminate institutional failure, guerrillas who labor to undermine institutions they perceive as sufficiently failed as to be deeply illegitimate, professionals who strive to keep institutions vibrant, efficient, and away from the many dead-ends that lead to failure.

How an institutional model effects the income distribution is largely independent of how much activity in enables and coordinates. How much eBay, Microsoft, Google, all create large amounts of economic activity. How they effect the income distribution is another matter.

On my more cranky days I suspect that most internet business models are not on the side of the angels here.

In broad strokes the standard internet business model works by realizing that the internet gives the entrepreneur access to a vast pool of labor. The successful model discovers a means to engage those idle hands. Given them something to do. This works best when their motivation is intrinsic while the motive force for the business is more fungible.

None of this should be taken as dismissing either the magnitude of the effort the entrepreneur goes thru to construct the new institution or the magnitude of the social and economic value generated when one of these institutions come into existence. This is not an argument that Google, eBay, Microsoft, etc did not raise the economic boat overall. It is an argument that they certainly appear to have contributed to the shocking disparity between rich and poor.

Short of deciding to forgo the economic and social benefits of these network businesses we are left with a search problem. Can we find designs that get the benefits without the corrosive social consequences? How your institutional shaping actions effect the skew is part of the metric that guides that search. How much is, of course, up to you.

VON

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I spent yesterday on the exhibit floor at VON. The voice over internet conference. Man is this industry messy! Fun.

What makes for a vibrant and profitable conference is an industry with well recognized problems and a lack of consensus about how and/or who is going to resolve those problems.

These guys don’t know what the natural size of a phone service provider is. They don’t know how call clearing works. They don’t know how 911 service functions. They haven’t agreed on how to encode sound. Their hardware platforms lack developer networks. It just goes on and on. They all know these problems exist so there is a conflict at varying degrees of heat going around each one of them. And then the entire tangle is embedded in the mess that is this generation of evolution of the Internet and is new robber barons. What a zoo!

I didn’t plan to go back, but it’s too much fun at the fair.

Pulver should be able to make money on this franchise for at least a few more years.