They’ve kindly given me permission to post it online and share it so go ahead and check it out here. (PDF Link) They give a history of the topic and discuss what many companies are doing now. In the conclusion they suggest that news sites should adopt hybrid subscription models.

The paper is a good qualitative treatment of the subject and a fresh take from some people not personally invested in the subject. This was a final paper for the class, and from what I know, none of the five team members have ties to or have worked in the industry.

Abstract: This paper outlines a method for finding revenue maximizing mixed bundling prices for news websites. This can help better understand paid content strategies for online news content. Drawing on work in the field of bundling information goods, I apply a two-parameter model of consumer preferences to web site traffic data and a roughly estimated willingness-to-pay curve. We can then calculate revenues for different price points and find the optimal one for any given site. This method is applied to a sample of ten sites. At revenue maximizing prices, the majority of paid revenue for these sites comes from the sale of individual articles, rather than subscriptions. Site traffic showing highly loyal consumers is found to correlate with higher subscription prices. This model suggests that while it is possible for overall revenue to be higher with a paid content plan, total traffic will certainly fall.

It can be found online here in PDF form.

I’m mostly happy with the way it turned out, though there were a lot of compromises and broad assumptions needed to bring it to a finished product. There’s so much interesting material in this field, I wish I could spend a few more years studying it. I guess that’s what graduate school would be, if I ever decide to attend.

Special thanks go out to Aleks Jakulin for supporting and encouraging me in this work.

Whether you like or dislike him, it’s time to stand up and recognize that Murdoch’s threat to pull News Corp sites from Google’s index has worked brilliantly.

Publisher unrest and the threat of a Bing deal and serious search engine competition on site indexing have pushed Google into a major concession. Google’s change to its First Click Free guideline is a bigger deal than many people realize. What appears to be a simple change in degree is actually a change in kind.

Google has now said that its okay with sites showing different content to its crawler than to a human following a search results link. There is no longer a guarantee that what shows on a search results page will actually be on the destination page. The Google search user experience will suffer slightly and publishers will now find it much easier to run a pay site.

A Little Background on First Click Free

I’ve seen First Click Free described by some bloggers as a Google “program” or “service”. It’s neither. It’s more accurate to call it a guideline or policy. Google has always taken a strict stance against “cloaking”, or showing different content to its crawler than to a human visitor. What First Click Free said to publishers of paysites was in effect that they had three options. (1) Opt out of indexing at all. (2) Let the crawler index all content, but direct a human reader to a sign-up page, and risk the wrath of Google, which could include de-indexing or ranking penalties. (3) Implement First Click Free, and check all incoming requests to see if they’re the Googlebot or have a Google referrer and show them the content for free. (This is what WSJ.com implemented)

Now with “First Five Clicks Free”, Google has given sites permission to not show a user the same content as the Googlebot sees after their fifth click.

First Click Free Created the Leaky Paywall

I had never understood the complaints about search engines “stealing” content that emanated from the top of News Corp. If anything, search engines were providing free advertising and new visitors to convert to paying subscribers. Pulling their sites from Google’s index wouldn’t hurt Google, and it wouldn’t help the site either. I thought that the Journal was allowing visitors from Google past the paywall voluntarily to increase traffic. Now its clear that the Journal was choosing between maintaining the loophole and violating Google’s rule against cloaking and risking losing Google derived traffic. In that context, the ire directed at Google makes much more sense.

Editors and staff at the WSJ are well aware of both the power of Google to drive traffic and visitors to the site, and the degree to which people were using it to circumvent their paywall. Every morning, an email report goes out to editors and staff detailing what search keywords were driving traffic to the site and what stories and trends are hot online. During my internship, compiling and writing this email report was one of my responsibilities. Visitors searching for the exact headlines of Journal stories often ranked among the top sources of Google referrer traffic.

That Google has so clearly and quickly reacted, means that some negotiating power is returning to the big publishers. Five free clicks per day is still probably too many to make them happy, though. But the more search share Bing gains, the more leverage publishers will have.

Predictions for the Future

I predict that we will soon see a future where major publishers will let search engines see and index the full text of a story, but show just a teaser and a “Purchase” button to users. In fact, paywalled sites could try it now, if they feel like playing chicken with Google. Would they actually follow through and penalize a sites ranking or de-index it? Especially for a site like the WSJ.com, it’s plausible that doing so would noticeably hurt the quality of web and news search results. If Bing doesn’t penalize a site for doing so, will their results look better in comparison?

By explicitly ignoring Google’s guidelines, publishers would throw the ball back into Google’s court to see how they’ll respond. “First Five Clicks” is a sign that Google may cave on this. My advice to Rupert Murdoch would be to patch that hole in the WSJ.com paywall (give away maybe one free click per day) and see what Google does.

Many of those papers remain surprisingly relevant today and anyone interested in the field would do well to go back and read them. I’ve been doing just that recently in preparation for my senior economics thesis.

One particularly good paper was written in 1999 by John Chung-I Chuang and Marvin A. Sirbu, two professors of Engineering and Public Policy. The paper, “Optimal Bundling Strategy for Digital Information Goods: Network Delivery of Articles and Subscriptions”, provides many interesting insights into recent discussions of the topic. In it, the authors come up with an optimal pricing model for access to academic journals online. Their method applies just as easily to news articles and websites.

Results

The first conclusion of the paper is that the optimal strategy is always to offer both site wide subscriptions AND a micropayments plan for sales of individual articles. This pricing strategy will (with reasonable assumptions) always be more profitable than solely offering one or the other.

A second indirect point is that visitor loyalty will determine not only how many visitors can be converted into paying visitors, but also what proportion of revenue will come from subscriptions versus individual sales. The more loyal visitors are, the greater the fraction of revenue that will come from subscriptions.

Sidenote: This paper assumes that the publisher is acting as a monopolist. The publisher’s offerings must be sufficiently differentiated from competitor’s products that consumers will not switch, and any switching that does occur is not taken into account. If switching does occur, then the assumption is that a competitor offers a similar mix of products. Thus, the proportion of subscription versus individual sales revenue does not change.

Theory

The theoretical underpinnings of this paper are in bundling theory. In bundling, we examine the problem of a publisher offering multiple goods (articles). A consumer places some value on each article. If the price of the article is below the value they place on it then they will purchase it. Likewise, for some bundle of articles, if the value the consumer places on the sum of their individual valuations is less than the price of the bundle, they will purchase it.

Over a subscription period where a publisher produces N-articles, then there are 2^N different sub-bundles to sell. These sub-bundles could include content grouped by category, author or any other distinguishing feature. However, it is extremely computationally difficult as N gets large. To simplify things, only the entire bundle, and sales of individual articles are considered.

Customer Preferences

In addition to these two conclusions, the paper also illustrates how little hard data is available in this field with which to do research. Their model describes the preferences of consumers as a distribution on two factors. Willingness-to-pay and percentage of articles valued. Their willingness-to-pay for their most valued article and the percentage of articles with non-zero value. Without hard data on the actual value readers place on articles in journals or on news websites, the study assumes a uniform distribution. Data on percentage of articles with non-zero value comes from a study by researchers King and Griffiths showing the distribution of the number of articles read in a Journal.

A good analogue to this survey data for content websites would be to use traffic data on visitor loyalty. How many pageviews per unique visitor does a site have? What’s the distribution of this statistic? Nielsen Online has begun to put together a new statistic for newspaper websites, session per user per month.

Pricing Strategy

Based on the data for academic journal readers, the authors calculate that the optimal price for a subscription should be approximately 10 times greater than that of an individual article. With this pricing strategy, the content producer’s revenue stream is well balanced with 56% from sale of individual articles and 44% from that of subscriptions.

Some publishers have started to speculate that their best hope of monetization may be with their most loyal visitors and not with ever higher traffic numbers. Still, much is up in the air.

A recent BCG survey begins the task of gathering the necessary data to make intelligent decisions about whether or not to charge for news. Still plenty more to do though.

More Data Needed

To apply a model similar to Chuang and Sirbu’s to news websites two datasets are required. One, is the survey or experimental data needed to find the distribution of consumers’ willingness-to-pay for a specific article. The other is a data set on visitor loyalty. If anyone knows of an existing data set for either of these, please let me know. I’m also in the process of gathering these data sets. If you want to share analytics from your news website to help my research, please let me know too.

I’ll be summarizing a few more of the papers and studies in the field and looking at other theoretical pricing models for digital content.

Both are stupidly easy to circumvent.

For WSJ.com, simply copy the headline of the paywalled article you want to read into Google and hit search. It’ll pop up as the first one and by following a search engine link, you skip over the paywall. For ft.com, once you’ve hit your limit, just clear your cookie from the site and keep on reading.

But despite how easy it is to get free access, lots of people pay anyways. They’re paying for the convenience of not having to use these work arounds. Where else are people willing to pay for convenience? Look at the proliferation of paid iPhone apps. Many (especially Twitter apps) just provide a nicer interface. Convenient.

When creating a premium product, make it more conveient and easier to use than the free one.

What would make a site more convenient? Alternately, what irritates you about a website currently that you might pay to avoid?

And since the marginal cost of distributing one more unit of news through the internet is essentially zero, news should be free.

In my last post I looked almost exclusively at the demand side of the equation. This time I’ll look at the supply side a little bit.

Marginal cost pricing is not a trivial objection to charging for online news, and I used to be firmly in the “information wants to be free” camp. But something clearly seems wrong about that. Information is so valuable I just can’t imagine that it could all be free.

1. Infrastructure Costs

Marginal cost isn’t quite zero. Most estimates say that Google is losing hundreds of millions of dollars a year running YouTube. The IT infrastructure to run a complex or high traffic site costs a lot of money.

2. Pricing Power

Profit maximization only makes price equal marginal cost if firm’s don’t have pricing power. (i.e. they are in perfect competition). And while a lot of news content might be in perfect competition, most people still have strong preferences about which publications they do and do not like. By widening the gap in perceived quality and value, publications can make it easier and easier for themselves to charge for content.

3. Measuring the Wrong Thing

Most significantly, number of pageviews isn’t the right quantity to consider. The right quantity should be some abstract measure of how many pageviews can be attracted to the site. What’s the difference?

For most goods economists look at, the company can produce and sell identical copies and as long as they keep reducing the price, people will keep buying more to more and more people. With news articles, that’s not true. No matter how cheap an article about something someone don’t care about is, they won’t buy it. And no matter how cheap a second copy of a news article someone has already read is, they won’t buy it.

When someone makes the argument that the marginal cost of digital content is zero, they are thinking of the marginal cost of one more person reading the content, one more pageview of a website, or one more copy of a single piece of content being distributed.

But that’s not at all the supply side decision being made by media companies. A media company will decide how large a staff to hire, and that in turn will determine how much content is produced each day. Cost has labor as an input, and the marginal cost curve is the standard J-shaped curve.

In turn, the more content produced and the better that content is, the larger an audience can be attracted that will want to view it. The first pageview is easy to get, the millionth or the ten millionth is much harder and more expensive to get.

Instead of looking at the price of distributing one more copy of an article, we look at the price of creating content that will attract one more pageview. (Either more content, or better content — so that either more people will read, or the same people will read more)

All of a sudden marginal cost isn’t zero. But what significance does this have?

Marginal cost above zero means there’s hope for paid content online! Since content has value to consumers AND the cost of supplying content is not zero, the equilibrium price of content need not be zero either!

It also means that content companies need to lose their single-minded focus on expanding audience. To make money from paid content, growing an audience can’t come at the expense of the ability to price the product.

I’ve been kicking this last idea around in my head for quite a while and I’m still not sure that I’m thinking about it the right way. It’s certainly not as rigorous as it could be, and I haven’t tried to draw up some mock numbers with it to see if modelling things this way will work. In the fall, I’ll be starting to research this topic more rigorously for my senior thesis.

DJNF Multimedia Project

The core of the program was reporting and producing a full multimedia package. We divided into two teams of four and went out into the city to find and create a compelling story. This kind of project is a first for me as all the multimedia I had done before was spot news done with super quick turn around for the next day. Having the time to go in depth and produce a full story is much more satisfying.

The project my team made was about female tattoo artists breaking into the industry. The other team produced a piece on refugees and immigrants settling in Bowling Green. (Here’s where I wish I had had more time. Our site leans heavily on javascript and jQuery for navigation and I didn’t finish making the site cross browser compatible. It degrades very badly in IE. It only works perfectly in Firefox. And I couldn’t figure out blocking for XHR requests. If I find more time this summer, I might try and figure out those issues and turn the layout into a general purpose template for multimedia stories)

Besides the new skills I learned and the new people I met, I had a revelation about how people learn journalism. I’ve always thought that the best way to learn journalism was through hands on experience, but….

Through the whole project there was a strong tension for all of us between doing what we were already good at and doing what we wanted to learn. I spent most of my time on web design even though I wanted to learn photo. Our best photographer spent most of her time on photo despite wanting to learn video. And of course this is kind of natural because people gravitate towards what they’re good at. And there’s almost a duty to your interview subjects to do a good job.

But it also means that once you start going down a particular skill path you are committed and it becomes hard to branch out into learning new things.

Now that I’ve been to one workshop, I’d like to go to one where we have explicit permission to do a bad job so that we’re not afraid to experiment and take on roles that are new to us.

But both sides are equally wrong, or at least misguided. Pretty much every company in the world has different products at different prices, why do journalists think they should have just one?

What you really need to do to monetize content is to take a page from the airlines and freemium web services and every other company with a product ever and learn how to price discriminate. Not only will you make much more money doing it, you will produce much better quality journalism as well.

Offer your basic and commodity content for free. Then create high value premium content and charge readers a monthly fee for it. [1]

Alan Mutter has some good ideas for types of premium content you can create. Here’s the economics that underlies it.

The Demand Curve

We have a standard downward sloping demand curve [2] with each point on the curve indicates how much value a consumer is getting from the product. Now if a site gives away all their content, the only revenue they get is from advertising, and the consumers who get the most value from the content pick up a nice chunk of consumer surplus.

Point D represents the smallest amount of value a reader gets from your site. This is likely in the micropayment range, likely just a few cents, but the quantity consumed is also huge. It doesn’t make sense to mess around with micropayments, because the site can monetize their traffic with advertising revenue. For simplicity’s sake we’ll say marginal advertising revenue is constant for any quantity. [3] While you could try charging with micropayments, it likely wouldn’t work. The mental cost of deciding whether or not to pay and then paying is a hefty tax on the process. (I’d argue that trying to charge anything less than $10 at a time or so becomes counterproductive, but the smoother the payment process is the lower this amount can go)

How can you increase revenue? By capturing consumer surplus.

Price Discrimination with Advertising

We would like to set several different price points at A, B, and C to charge people different amounts based on where they are on the curve. Businessmen and politicians and news junkies get much more value from a news site than casual readers do, but how can we charge them a higher amount than everyone else? Airlines are the classic example. They do it with such a pricing schemes that make sure that you almost certainly did not pay the same amount for your ticket as your seatmate. [4] To do it for a news site, you’ll want to create varied products such that the product offered at price point A appeals to all the readers left of point A. Each of the points A, B, and C need to be different slices of unique premium content that readers will pay different amounts for.

A few more points to consider

• Judging Value — You need to be able to accurately judge the value of all your content and spend a good amount of time researching and calculating what the proper price points are. I suspect for high quality business news, sites could get away with subscriptions costing upwards of a hundred dollars per year. Things like high end wine or restaurant reviews also don’t make much sense as free content. If someone is spending a hundred dollars a bottle, they’ll pay for a review backed by a renowned brand name.
• Subscriber value versus site traffic — For any given piece of content, you have a dilemma. You can put it in the premium content pile and restrict access to it, or you can put it up for free. Each piece of content that goes into the free pile increases your reach and traffic, but slightly erodes the value your premium subscribers get and makes them more likely to switch. This is a delicate balance. One way around it might be to delay the speed at which non-subscribers can access content. So that masterful investigative piece might be subscriber only for the first week, after which its open for anyone to read. The kind of high quality, high traffic pieces you want to grow traffic will be the exact same pieces of content you want as premium content to get people to pay.
• Archives are terrible premium content — A lot of newspapers have their full archives online behind a paywall. Sometimes a very expensive paywall where per article access can cost close to $10. What audience is this supposed to attract? People who place enough value on old news articles (lawyers, academics, other reporters, students writing papers etc.) to pay for them, likely all have access to LexisNexis subscriptions already and won’t pay. And the average reader won’t care enough to pay for an article they stumble across. It seems like they’ve made a terrible subscriber value/traffic trade-off here.
• What am I buying? — Transparency and convenience are important. With your premium content make it explicitly clear what types of content and privileges a subscriber will get. Any uncertainty here means fewer paying customers.
• Piracy will be an issue — Remember that when digital content has a price, piracy is going to be a problem. Look at the troubles the movie and music industries are having. You’ll have to be willing to vigorously defend your copyright against sites which spring up and paraphrase all your premium content.

Notes

[1] DO NOT just repackage your current content as free content. It’s almost certainly not good enough. Thinking hard about what sorts of content readers will pay for, you’ll produce better content too.
[2] Different pieces of content have different value to different consumers. Together they form a downward sloping demand curve. A few consumers are willing to pay a lot for content, but this amount drops off quickly. On the right side of the graph, by decreasing the price towards zero, the quantity consumed can be expanded almost to infinity.
[3] In truth, marginal revenue from advertising is probably downward sloping as well, but the market for that is so much more inelastic than that for traffic that it doesn’t matter. That line should also extend all the way to the left.
[4] Nearly every economics textbook has an example about the price of airline seats to explain price discrimination. For them point A are the business travelers that need comfy seats and need to buy them at the last minute. Because the value they get from travel is much higher than average they are willing to pay much more. Point B might be the families on vacation, they’re willing to book well in advance but they might want their tickets refundable in case things change. But they’re also price conscious. If the ticket costs as much as at point A, they’ll just stay home instead. Point C would be the budget travelers and backpackers, who are willing to fly standby on whatever plane has a few empty seats. In the end they all get the same service, transportation from one point to another, but by varying the conditions and terms of each ticket, the airline is able to make much more money.

Looks like this post has gotten a bit of attention. If you found it interesting, you might also enjoy my earlier post 9 ways that newspapers can make money that aren’t advertising.

I’ve also given a brief talk on this topic at the Information Valet conference hosted by the University of Missouri’s Reynolds Journalism Institute. Martin Langeveld did a great write up of it for the Nieman Lab, making some of my points better than I did myself. A video is here.

Okay, replaced the live stream with a saved version of the session. Hope I didn’t embarrass myself too badly. Watch after the jump.

I want to think about this question from the perspective of an investor considering buying a newspaper and implementing a drastic turn-around plan. Or perhaps, with the same money that investor could go off and finance some people to start a competitor. What should they do?

What value do you get out of buying an existing operation?

• A trusted brand name
• Established base of readers and visitors
• A newsroom of talented journalists
• Equipment, computers, office space, etc.
• Content archive

What downside is there to buying an existing operation?

• Piles of debt
• Institutional inertia
• High operating costs

What value do you get from starting fresh?

• Innovative attitudes not burdened by “the way things have always been done”
• Online only focus from the beginning
• Low operating costs

And what downside is there?

• Need to invest in new equipment and software
• Need to build traffic and viewers
• Brand name non-existent

Conventional wisdom would say that the established player has a big advantage. The audience knows and trusts them. So do the advertisers. But let’s face it, big companies and dominant industries have a bad track record when it comes to dealing with major change. Not until small and nimble competitors come along and start playing a different game do they realize that the old way of doing things soon won’t work anymore. And too often, by the time that realization comes it’s too late.

Theodore Levitt’s classic 1960 essay Marketing Myopia tells this story far better than I can.

The failure is at the top. The executives responsible for it, in the last analysis, are those who deal with broad aims and policies. Thus:
The railroads did not stop growing because the need for passenger and freight transportation declined. That grew. The railroads are in trouble today not because that need was filled by others (cars, trucks, airplanes, and even telephones) but because it was not filled by the railroads themselves. They let others take customers away from them because they assumed themselves to be in the railroad business rather than in the transportation business. The reason they defined their industry incorrectly was that they were railroad oriented instead of transportation oriented; they were product oriented instead of customer oriented.

Forty-nine years late, newspaper executives are just now coming to this realization.

The newspaper isn’t what’s important. Delivering timely and relevant information to readers is. And helping advertisers promote their businesses is.

That’s why I believe it would be wiser to invest time in new startups. Journalists can be hired away and readers can be won over, but the combination of debt and inertia is deadly. To turn an existing metro daily around to succeed will take change and reorganization of the “burn the whole thing down and start over” variety that will make Sam Zell’s work at the Tribune seem like gentle encouragement.

End note: Where are the local news start ups?

Sure there are lots of local blogs and local news portals, but where are the news sources? I don’t know of any local news startup that does consistent original reporting of the cops and courts variety. Or that goes after the car dealerships and retailers that are newspapers main customers, or the baby boomers that are the main subscribers. (If there’s a start-up I haven’t heard of or thought of, please let me know in the comments) Those are customers that traditional newspapers have had a long monopoly on. That long monopoly means that there hasn’t been much innovative thinking about how their needs can be better served, unlike for younger generations. I want to see a startup roll up their sleeves and take on this challenge.