The Economics of Subscription Bundling Wars

Why just buy one product when you can get a deal on a bundle?  Consumers today frequently face this question when buying digital subscriptions ranging from streaming entertainment to website access to software downloads.  They may have only wanted to buy product X, but what if they can also get product Y - produced by the same firm - for 50% off?  This creates a complex mental exercise for the consumer: purchasing the bundle may be more expensive than originally planned, but includes more products.

Economics of Bundling: Producer Benefits

Low Marginal Cost

Digital subscriptions are a big money-maker for technology companies.  There are very high fixed costs, but very low marginal costs.  After the initial investment in server equipment and creating or purchasing digital content, the company can sell to thousands of consumers almost as easily as selling to a single customer.  Unlike selling a physical commodity, the producer does not incur additional costs for each unit produced.  Therefore, it makes financial sense for the producer to offer almost any deal to attract new customers as long as there is excess capacity (space in the server).

To attract new customers, digital producers can use bundling deals.  It costs the company almost nothing to create a bundled deal for new customers, as the work of creating or purchasing digital content has already been done.  Therefore, the company still profits when selling product X even if it throws in products Y and Z for almost no additional price.  

Increased Access to Consumer Data

Selling bundles can also benefit firms if the bundles help generate consumer usage data that helps tailor new products.  This data can also be sold to other companies as a tool to help them create similarly appealing products and services.  For example, while product X may not collect data that is desirable to third parties, products Y and Z do.  Therefore, the tech company that produces the three products has an incentive to offer products Y and Z as a bundle with product X for a very low price.  It will more than recoup the low marginal cost of adding Y and Z to the bundle by selling the data collected by Y and Z to third parties…or using it as free marketing research for in-house purposes.

Bandwagon Effect

It may also be worth it for tech companies to offer generous bundles in order to create a bandwagon effect where consumers naturally gravitate toward additional, non-bundled products from that same company.  When it comes time to purchase a new product, users are likely to stick with a producer whose goods and services they know well and reasonably enjoy.  A bundle is more likely to achieve this than a singular product, allowing the producer to rationalize treating the costs of bundling as an investment in marketing and customer retention.

Economics of Bundling: Consumer Benefits

Expectation of Future Price

Consumers may be influenced to purchase bundles because they are typically advertised as sales.  This is part of the demand determinant of expectation of future prices, which has a direct relationship with today’s demand.  If consumers think prices will be higher in the future, they will have higher demand today in order to purchase the product while it’s cheaper.  Digital bundles are often advertised as “limited time only,” similar to sales at brick-and-mortar stores, in order to capitalize on this demand determinant.  

If the company is honest about the bundle being a limited time only deal, then customers may actually benefit by purchasing during the sale period.  They get more products (Z and Y in addition to just X) for a slightly higher price than they would get the singular product otherwise.  However, this benefit dissipates if the company actually plans to offer the bundle deal on a permanent basis.  Consumers could make the purchase any time.

Network Effects

Bundles can benefit consumers by creating larger digital networks within which subscribers can operate seamlessly.  This is called the network effect, and it benefits users by reducing transaction costs and increasing efficiency.  Bundled products, almost always created by the same firm, tend to naturally work well together, such as allowing users to share profiles, documents, and other content from one bundled program or platform to another.  Over a long period of time, this ability to share information easily can save users many hours of labor, which has economic value.

Being part of a larger digital network can also help users interact more easily with other users.  This can include social conversations, with customers benefiting from a popular streaming entertainment bundle by being able to discuss the bundle’s offerings with others.  Those who subscribe to less-popular, unbundled entertainment options may feel left out of conversations about popular shows, movies, games, and posts.  

Economics of Bundling:  Producer Risks

Consumer Expectations

Offering generous bundles may be inexpensive today, but risk arises as consumers come to expect bundles.  In the future, bundles may grow more expensive as producers have to purchase outside features and content to create new offerings.  If they raise prices, however, they risk losing lots of customers who have grown accustomed to the generous bundle deals.  Thus, companies who bundle may become “locked in” to offering bundles, even as costs increase.

Price Wars

Large tech companies tend to be oligopolists and are thus affected by the actions of their rivals.  If one firm in the oligopoly market cuts its prices, or offers a considerably more generous bundle, it could trigger a price war as rival firms rush to compete and not be undercut.  Faced with a rival offering a more generous bundle, a competitor may quickly release an even more generous bundle to retain its existing customers and lure away those of its rival.  This continues for several rounds, eventually hurting all firms in the oligopoly market.

Economics of Bundling:  Consumer Risks

Asymmetric Information and Consumer Fatigue

How do you know if you’re getting a good deal?  There are usually many competing bundles to choose from, and this may actually drive consumers away due to confusion and fatigue.  Unsure if paying 30% more for a bundle is worth it, many consumers may choose to get the singular product.  Or, they may opt to not purchase any new product at all.  When options appear confusing, consumers with low risk tolerance may choose to forego any option, even if their current substitute is more expensive.  They may reason: “I know what I am getting with my existing program, but I don’t understand this new option…so I’ll stick with what I know and at least somewhat like.”