Retail Strategies on the Web : Price and Nonprice Nonprice Nonprice Competition in the Online Book Industry

One widely-reported prediction is that the availability of low-cost information on price, specifically the rise of comparison shopping agents, will lead all Internet retailers to charge the same price for mass-produced physical goods and that price will be approximately cost. This prediction is, however, in tension with another prediction – that firms prefer not to compete directly on price because of the low profits that result and so will seek to differentiate themselves. We investigate these hypotheses using a new data set of book prices for 107 titles sold by thirteen online and two physical bookstores. What we find is that controlling for book characteristics, prices in online and physical bookstores are the same. An average price of 85 percent of the publishers price and substantial price dispersion suggest that low cost information has not had the predicted effect on prices. Analysis of product differentiation yields no clear results, but the substantial premium Amazon charges for its books, even relative to barnesandnoble.com and Borders.com, provides indirect evidence of product differentiation. We would like to thank Bo-Han Chen, Kang-Bae Lee, and Yimin Yang for excellent research assistance, conference participants at the Second International Conference on Telecommunications and Electronic Commerce (ICTEC) for comments, and Y. S. Chi of Ingram Book Group for insights on the wholesale market for books. We would also like to thank Severin Borenstein and two anonymous referees for their insightful comments. 2 Introduction Electronic commerce is a significant force in the consumer economy. One widely-reported prediction with respect to electronic commerce is that the availability of low-cost information on price – specifically the rise of comparison shopping agents – will lead all Internet retailers to charge the same price for mass-produced physical goods and that price will be approximately cost. No retailer will be able to charge more, because customers would not buy from that retailer. This prediction is in tension with another prediction – that firms prefer not to compete directly on price because of the low profits that result and so will seek to differentiate themselves. Early work yielded conflicting results. If search is easier on the Internet, we would expect competitive pressures there to be stronger, and prices lower, than in conventional channels. Lee (1997) found that prices for used cars were higher on the Internet than in conventional channels. A study by Bailey (1998) also found that prices for books, compact disks, and computer software during 1996-97 were higher on the Internet than in conventional channels. Subsequent work by Brynjolfsson and Smith (1999) on books and compact disks for 1998-99 found that Internet retailers had lower prices, made smaller price adjustments, and had greater or smaller price dispersion than conventional channels, depending on whether prices were weighted by proxies for market share. Another study of interest is Clemons, Hitt, and Hann (1998) on the online travel industry. They found that online ticket agents engaged in significant product differentiation, i.e., agents responded to identical requests with different time/price pairs. 1 There is some question, however, about whether used cars sold over the Internet were of higher quality and therefore commanded higher prices. 3 To investigate the effect of comparison-shopping agents on the retail price of mass-produced physical goods, we collected price data the week of April 19, 1999 for 107 books across thirteen firms in the online book industry and two nationwide bookstore chains with physical stores. The books included 40 New York Times bestsellers and a random sample of 67 books from Books in Print. The firms included industry leaders Amazon, Barnes and Noble (physical and online), and Borders (physical and online), as well as lesser-known players such as Spree, Books.com, and Shopping.com. These data were used to investigate three questions: How does the price of books on the Internet compare to the publishers’ suggested retail price and the price in large bricks and mortar chains? Has the low-cost availability of pricing information led to price convergence on the Internet? If prices fail to converge, can price dispersion be explained by product differentiation? The first two questions were addressed by Bailey (1998), and Brynjolfsson and Smith (1999), and we build on their work by using data for a wider range of books and a large sample of online bookstores. Our study departs from their work in its focus on firms’ strategies for differentiating themselves in an online context. What we find is that: The average book in our sample sold for 85 percent of the publishers suggested price. The average price of the lowest priced segment in our sample, hardcover bestsellers, was 72 percent of publishers’ suggested price. Thus prices appear not to have fallen to cost. On average, online and physical stores charged the same unit prices for the