Fee or free? How much to add on for an add-on

Sellers often provide complimentary “no extra charge” add-ons (e.g., free Internet connection) to consumers who buy their primary products (e.g., a hotel stay), but recently add-ons that used to be free are offered for a fee. The conventional wisdom is that unadvertised add-ons for high fees help competitors increase profits that are competed away by advertising low prices for the basic products. This theory cannot explain why complimentary add-ons are still offered by some sellers. We show that providing complimentary add-ons can be profitable for sellers with monopoly power under certain demand conditions. If these demand conditions are not met, it is optimal to charge a supplementary fee for the add-on. We also show how pricing policy can be designed to selectively target or deter different consumer segments from purchasing the add-on to boost sellers’ profits, providing a strategic role for selling add-ons at either below-cost or at exorbitantly high prices. Yet such behavior may have repercussions for economic welfare when it results in socially inefficient giveaways when consumers would be better served with a lower price on the basic product without the add-on or, with the other extreme, when it results in excessively high prices for an add-on that restricts sales and leads to its under-provision from a societal perspective. The paper also provides managerial insights on the design and use of add-ons.

[1]  Wujin Chu,et al.  Controlling product returns in direct marketing , 1996 .

[2]  Kristina Shampanier,et al.  Zero as a Special Price: The True Value of Free Products , 2007 .

[3]  Jinhong Xie,et al.  Service Escape: Profiting from Customer Cancellations , 2007 .

[4]  Dubravko Radic,et al.  Could higher fees lead to lower prices , 2009 .

[5]  J. D. Hess,et al.  Loss Leader Pricing and Rain Check Policy , 1987 .

[6]  Dubravko Radic,et al.  Rating E-Tailers' Money-Back Guarantees , 2008 .

[7]  Timothy J. Gilbride,et al.  Framing effects in mixed price bundling , 2008 .

[8]  Glenn Ellison,et al.  A Model of Add-On Pricing , 2003 .

[9]  Abhijit Biswas,et al.  Partitioned pricing: can we always divide and prosper? , 2007 .

[10]  Michael R. Hagerty,et al.  Return Policies and the Optimal Level of "Hassle" , 1998 .

[11]  Rajiv Lal,et al.  Retail Pricing and Advertising Strategies , 1994 .

[12]  Priya Raghubir,et al.  Free Gift with Purchase: Promoting or Discounting the Brand? , 2004 .

[13]  Sreya Kolay,et al.  Bundling and Menus of Two-Part Tariffs , 2003 .

[14]  B. Wansink,et al.  Cabinet Castaways: Why We Buy Products We Never Use , 2000 .

[15]  Eric J. Johnson,et al.  Divide and Prosper: Consumers’ Reactions to Partitioned Prices , 1998 .

[16]  David A. Garvin,et al.  Es la suya una organización de aprendizaje , 2008 .

[17]  W. Kamakura,et al.  Optimal Bundling and Pricing Under a Monopoly: Contrasting Complements and Substitutes from Independently Valued Products , 2003 .

[18]  Serhan Ziya,et al.  Pricing Promotional Products Under Upselling , 2008, Manuf. Serv. Oper. Manag..

[19]  Yih Hwai Lee,et al.  Partitioned Pricing in Advertising: Effects on Brand and Retailer Attitudes , 2002 .

[20]  G. Tellis,et al.  Strategic Bundling of Products and Prices: A New Synthesis for Marketing , 2002 .

[21]  Janet L. Yellen,et al.  Commodity Bundling and the Burden of Monopoly , 1976 .

[22]  C. Anderson,et al.  Free: The Future of a Radical Price , 2009 .

[23]  D. Ariely,et al.  The Impact of Add-On Features on Consumer Product Evaluations , 2009 .

[24]  R. H. Holton.  Price Discrimination at Retail: The Supermarket Case , 1957 .

[25]  Lorin M. Hitt,et al.  Bundling with Customer Self-Selection: A Simple Approach to Bundling Low-Marginal-Cost Goods , 2005, Manag. Sci..

[26]  Daniel G. Goldstein,et al.  Nudge Your Customers Toward Better Choices , 2008 .

[27]  Yue Pan,et al.  Partitioning or bundling? Perceived fairness of the surcharge makes a difference , 2007 .