New product introductions with selection of unique and common features in monopoly markets

Abstract

Firms have to determine the right features and prices for their new products as they introduce new product generations to the market. We consider the problem of determining the features of a new product that a monopolist will introduce into a market that contains an existing product as well as setting the prices of the existing and the new products. The firm also decides on offering only the new product or both the existing and the new products. We explicitly capture the effects of unique features, which are specific to one of the two products, and common features which are shared between the new and the existing product on these decisions. The problem is formulated as a nonlinear-mixed-integer program with general cost, demand, and price functions. For the case of linear cost, demand, and price, the nonlinear-mixed-integer program is converted to a nonlinear program and solved analytically. Based on this solution, the optimal prices for both products and the optimal unique features for the new product are derived in closed form, a linear-time algorithm is presented to determine the optimal common features, and the optimality conditions of keeping the existing product in the market are characterized. We show that the selection of the unique features, but not the common ones, is based on the difference between a feature's contribution to the product's demand and its cost adjusted by the price sensitivity in the linear case. Moreover, we find that the firm, if it wants to avoid demand cannibalization, should remove the existing product from the market rather than offer two products with mainly unique features. Capturing the effects of unique and common features directly allows firms to decide on the best rollover strategy and determine the right features and prices