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Four Myths of Bundling


Myth 3. Bundles will always feel like a rip-off to consumers since they represent a lack of choice

Ok ok, so our Myth-maker agrees that MarginalChurnContribution makes more sense than Usage, and it makes some sense that bundling allows access for (and revenue from) CasualFans in addition to SuperFans. But our Myth-maker is resolute - these all sound like a bunch of frameworks for economist wonks and the average consumer won’t see it this way. In particular, bundles represent a removal of choice - requiring someone to buy ProductX if they are purchasing BundleY - and removal of choice is always seen as a negative to customers, right?
Well there’s a few clear counter-examples. For example, consider the example we discussed in : the McDonald’s value meal. When a customer looks at Value Meal #1, their natural instinct is to do the quick addition: “how much would it cost to separately buy a Big Mac, fries, and a drink?” Then they think, “well I may not have wanted a drink, but I wanted a Big Mac and some fries, and I wouldn’t really mind having a drink, so this looks like a good deal?” But why does this work for McDonald’s but not for other bundles? Let’s unpack it a bit.

A basic model for how consumers value bundles

That inner dialogue captures a very important concept for how consumers mentally process the value of a bundle, and leads to our next thesis.
Thesis 3: For a Consumer to properly value a bundle, there must be a transparent (and reasonable) a-la-carte price for each of the products in the bundle
Before discussing that point directly, let's explore a corollary
Corollary 3.1:

A consumer C will see a bundle as being “a good deal” if:
Price(BundleY) < Sum(RetailPrice(X)) for all Products X in BundleY
for which C is a SuperFan
Phrasing that differently, I believe that the way a consumer values a bundle is in the following steps:
Examine the list of Products within BundleY
Mark each Product for which I would anyways purchase that Product separately (i.e. Products for which I am a SuperFan)
Look up the a-la-carte (aka RetailPrice) of each of those Products and add them up
If that total is more than the cost of BundleY, then the bundle is a deal!

Consumers will often rephrase this sentiment as “I bought BundleY for ProductX1 and ProductX2, and I’m getting ProductX3 and ProductX4 for free!”
Note that it is not necessary (and often advantageous) that different consumers see a different set of compelling products when they view the bundle. More on this in a bit.

The importance of transparent RetailPrices

Taking our cable example, I think that the reason why consumers think that cable may be a bad deal is that they don’t understand the true a-la-carte costs for each of the component products.
For example, take ESPN. Imagine that the SuperFan% of ESPN is 10% (it’s difficult to get this research, but for a variety of reasons, it’s hard to imagine it’s significantly higher than that). This means that roughly 10% of cable customers would pay for ESPN at an inelastic price point. Applying Corollary 2.1, and assuming a carriage fee of $5/month for ESPN leads to a RetailPrice of ESPN of ~$50/month. Imagine if rather than thinking of your cable bundle as “buying 400 channels, one of which happens to be ESPN”, these set of ESPN SuperFans could think of their $50/month cable bill as being for “buying ESPN for $50/month and then getting 399 channels for free”. Repeat this exercise for the SuperFans of each product within the bundle, and you’ll gradually recreate the current customer base of the cable subscription.

But what about CasualFan value?

But the close observer will notice that our formula is not yet complete. Here are a few other considerations:
CasualFan Value: The consumer will ascribe some value to products in the bundle for which they are a CasualFan and not a SuperFan.
Negative Value goods: In some cases, consumers could ascribe negative value to a particular product in a bundle. There is some good analysis of this phenomenon in where it was shown that in some cases, adding a good to a bundle actually reduced the value of the bundle. There are a few reasons why this can happen:
Goods that are undesirable to have access to - e.g. a kids content subscription that includes porn
Goods that are suboptimal relative to their alternatives - This is a more interesting case. For example, consider a subscription that includes a subscription to the WSJ when you prefer the NY Times. Even though you might think that a consumer should just value this portion of the bundle at zero, numerous studies have shown that consumers can sometimes ascribe negative value to these inclusions.

We’ll incorporate both of these concepts with a new multiplier in our formula:
CasualFanDiscountValue[ProductX] = a constant from -1 to 1 that is multiplied by the RetailPrice of ProductX to determine the value that a specific CasualFan consumer puts on ProductX being in BundleY.

In order to keep our formula simpler, we can define:
A Consumer is a SuperFan of ProductX if their CasualFanDiscountValue[ProductX] = 1
In other words, if you value a product’s value in a bundle to be the same as it’s a-la-carte RetailPrice, we’ll count you as a SuperFan of that Product.
So our new formula is:
Corollary 3.2 (Initial):

A consumer C will see a bundle as being “a good deal” if:
Price(BundleY) < Sum(CasualFanDiscountValue(X)*RetailPrice(X))
for all Products X in BundleY

Thinking about “Visible” and “Invisible” Products

Another concept to consider is the idea that a consumer is not an economist and they will not be able to do the above calculation exhaustively for every good in a bundle. This can lead to some interesting effects. For example, if a bundle contains a number of products for which the consumer is a SuperFan, but the consumer first “sees” the products for which they are a CasualFan or NonFan, they may not see the bundle as valuable.
So we can adjust our formula to accommodate this concept as well.
Corollary 3.2 (Restated):

A consumer C will see a bundle as being “a good deal” if:
Price(BundleY) < Sum(CasualFanDiscountValue(X)*RetailPrice(X))
for all Products X in BundleY that the consumer sees
as being part of the bundle
While this may be seem like a small adjustment, it is actually quite powerful. The reason is that in today’s marketing world, one doesn’t have to show the same offer to every potential customer - one can choose to highlight a subset of the products and introduce the others later. So as an extreme example, if you could properly determine the SuperFan products for a particular user, and just show them those, then I believe the consumer will value the bundle just on that basis.
This concept of how bundles are presented can be quite complex, as human beings don’t generally behave as rational economic modelers. For example, this has some interesting examples where different models for presenting bundles caused overall perception of the bundle to be skewed.

Is there value in integration?

One last thing to include in our consumer value formula is the value of integration between services. After all, bundlers often provide value beyond just a purchase arrangement. For example, Netflix provides a browsing and recommendation experience across content from multiple providers, etc. Or as another example, Comcast provides you with a single piece of hardware for tuning to and recording content from multiple providers, etc. Similarly, Amazon Prime gives you a unified shipping and return experience across a wide set of providers.
So let’s adjust our formula to capture this. The most accurate calculation for this would be combinatorial - we would take all products X1, … XN, limit them down the Visible set (see previous section), then compute every potential Combination of those products, and then calculate an IntegrationValue for every Combination.
For now, we’ll summarize that calculation into:
IntegrationValue(BundleY) = the value a particular consumer ascribes to the integration of the sets of products in BundleY that the consumer sees as being part of the bundle)

So now for our final, most complete version of the Consumer Value function
Corollary 3.2 (Final):

A consumer C will see a bundle as being “a good deal” if:
Price(BundleY) < IntegrationValue(BundleY)
+ Sum(CasualFanDiscountValue(X)*RetailPrice(X))
for all Products X in BundleY
that the consumer sees as being part of the bundle

Next Section: , for a view on which products are best to bundle together

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