HW’s profit functions each period depend upon
- The portion of users who have adopted the new system during previous periods, that is, the installed base of users for the new system;
- The portion of users who adopt the new system during the current period, which will depend on the price at which HW chooses to set for new system hardware during the current period; and
- The portion of resources SW chooses to dedicate to the production of new system content during the current period.
The simulation model of the Hardware-Software Game was used to generate the optimal response for HW to various actions of SW (current levels of content availability). The graph below indicates the portion of new adopters that will maximize HW’s current period profits for different sizes of the installed base of new systems users and for different availabilities of new systems content. During earlier periods of adoption, HW’s choice of current period price is more strategic, in the sense that current levels of adoption will influence future period profits. However, once adoption passes some threshold level, HW’s choice of current period price will affect current period profits much more so than profits in future periods.
The model suggests that HW will maximize profits with a faster pace of new system adoption, that is, by setting lower prices and generating greater levels of adoption, when
- There is more content available for the new system,
- The technology system exhibits stronger direct network effects, and/or
- The installed base of new system users is larger.