The emotion of price increases

One of the New York Times most popular articles over the holidays was on the seemingly prosaic topic of text message pricing by the major US network operators. Provocatively titled "What Carriers Aren't Telling You About Texting", the article by Randall Stross asserts that "the public assumes that carriers costs are far higher than they actually are" and that "profit margins are concealed by a heavy curtain". Senator Herb Kohl states that prices doubled between 2005 and 2008, from $0.10 to $0.20 per message.

It all sounds so ominous, but let's take a quick breather. First of all, companies do everything they can to obscure their profit margins for competitive reasons -- why would you let your competitors know how much you can make with a given price? Revealing actual network costs is not in the commercial interests of Verizon, Sprint or AT&T Wireless, so of course their profitability is going to be concealed.

Pricing is a very emotive issue. I'm not sure where the evidence is for the assertion of "the public assumption" that texting costs are high, but it does highlight an important issue in pricing: that prices must seem to be fair. Why else would "the public" care about the underlying cost of text messaging service? Do we care how much a Starbucks coffee costs to make versus how much we pay for it?

Getting back to the business side, let's remind ourselves of how telecoms carriers make their money. The business model is to invest a large amount of capital in a fixed cost asset: the network. Billions of dollars in the case of US mobile networks. The carriers then sell variable-cost services that are metered per unit (per minute for voice calls, per kilobyte for data, per message for texting). Carriers charge metered prices for using a fixed cost asset -- and hope to recover the cost of the network plus their cost of money (finance charges) plus operations costs (networks don't run themselves), and whatever is left over, if anything, is profit. In the article, this is made to sound bad:

"But the carriers [...] can provide unlimited quantities [...] at virtually no cost to themselves — so long as it is served in bite-sized portions."

Well, "at virtually no cost" is only really true if one ignores the multi-billion dollar cost of the network. In economic terms, any such asset is a "sunk cost" -- money that has left the building -- but calling it "no cost" is misleading, in my opinion. Let's face it: this is the same business model that was in place 100 years ago for voice calls... no magic new profit machine here.

Back to the article, which explains that text messages ride "for free" on the control channel of mobile phone networks. "Free" is a fabulously emotive term -- another article in the NY Times this week explains that "buy one get one free" offers on Chrysler trucks and cars in Florida are the same as a hefty discount, but that people respond more emotionally to the word "free".

The fact is that the control channels of mobile networks had very limited bandwidth initially because they were never designed to carry text messages, and carriers had to invest capital in upgrading these control networks when the volume of text messages shot up. So the fact that the messages travel on the control channel doesn't mean they travel without incremental investment.

Mobile telephony is also a highly regulated service, where prices are public and have to be announced in public filings with regulators. This provides a handy mechanism for carriers to signal price increases to other carriers through regulatory filings. Perhaps this is the case here (I don't know -- I have no special insider knowledge): all the carriers have pretty much the same cost for the same service (i.e., it's a commodity) and so no-one benefits from a pointless price war. Thus when one carrier signals that it will raise prices in a regulatory filing, everyone else decides to follow suit and files their intent to raise prices too.

Finally, consider that the broad adoption of texting in the US lagged the adoption in Europe and the rest of the world. So perhaps the carriers dropped the price of texting to get it started, and then raised prices to something more sustainable longer term. Perhaps they even did a little testing to find out the boundaries of pricing elasticity, and learned that pricing at $0.20 wouldn't lose them money vs. $0.10.

We shall probably never know, but it's also a reasonable explanation... doesn't make for such a provocative article, though: "Carriers figure out how to properly price texting service to balance utility of offering with acceptable price for consumers".

Welcome

A little about me: I currently run the product marketing team for Symantec's Information Risk Management group -- covering security, archiving and data loss prevention (DLP). Born and raised in the UK, I have now been working in Silicon Valley since 1997, though I did spent a couple of years back in the UK running Symantec's EMEA product marketing before returning to San Francisco at the end of 2007.

During my career I have enjoyed learning lots of new stuff: new countries, different markets, hardware and software, large companies and small... and partly this blog is about sharing my enthusiasm for the bridging the different groups I have encountered. For example, having worked in Europe gives me a different perspective to other folks working at HQ of a US software company, and I like to think that's useful.

And so, that's a part of the motivation for this blog.