Differential pricing was made possible by the application of mass
manufacturing to the knowledge society. Many industries, both emerging
ones, like telecommunications, or information technology - and mature
ones, like airlines, or pharmaceuticals - defy conventional pricing
theory. They involve huge sunk and fixed costs - mainly in research and
development and plant.
But the marginal cost of each and every manufactured unit is identical
- and vanishingly low. Beyond a certain quantitative threshold returns
skyrocket and revenues contribute directly to the bottom line.
Consider software applications. The first units sold cover the enormous
fixed and sunk costs of authoring the software and the machine tools
used in the manufacturing process. The actual production ("variable" or
"marginal") cost of each unit is a mere few cents - the wholesale price
of the diskettes or CD-ROM's consumed. Thus, after having achieved
breakeven, sales revenues translate immediately to gross profits.
This bifurcation - the huge fixed costs versus the negligible marginal
costs - vitiates the rule: "set price at marginal cost". At which
marginal cost? To compensate for the sunk and fixed costs, the first
"marginal units" must carry a much higher price tag than the last ones.
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