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Why In-App Purchases?

With the wide popularity of Apple’s iPhone, the iOS App Store has become a beacon to developers. Due to the abundance of apps available in the App Store, competition is very fierce and making a nice chunk of money is quite the challenge. Graham Spencer points out five general approaches to pricing an app, but the main focus of the article is on the use of in-app purchases (IAP), particularly in iOS games. An in-app purchase is where a user pays money to get some kind of content for the app after the initial purchase (or just initial download in the case that the app was free).

The use of in-app purchases by developers have had mixed reviews though. Some users favor them as a way to “thank the dev,” while others view them as reducing the enjoyment of the game. As  Spencer points out though, the response to IAP is also greatly linked to how IAP is implemented in the game. An IAP that offers additional content, such as a new level, is generally more liked than an IAP that allows a user to buy in-game currency, essentially a “bribe” as Spencer called it.

Game theory can be applied to the decision to include in-app purchases in a game. As mentioned in the article, pricing an app around $0.99 (or for free) is not a feasible way to earn a substantial amount of money, and unless you are a big name in the gaming industry, pricing the game at an absurdly higher price is not feasible either. Instead, developers have the option to include IAP in their games. We have a situation in which the developer can choose whether or not to include IAP, and the other aspect is whether a user is willing to pay for IAP or not. If a user is not willing to pay for IAP, then the developer will get a profit of zero either way. If a user is willing to pay for IAP however, if the app did not offer IAP, then the developer would be missing out on the additional income that would have come with the IAP. Therefore, the Nash Equilibrium would be for the developer to include IAP, unless of course, the developer does not care to make money at all but we will assume that the developer does.

Essentially, IAP is a form of price discrimination, which Spencer pointed out. It is like a trading network in which the seller, which is the IAP, has a value of the price of the IAP, and the buyers are the users whose values reflect the amount of money they are willing to spend on the IAP. The app can be seen as the trader as it is the medium through which IAP can be purchased, but the distinction is not important. In this network, the app will trade as much IAP as possible to the buyers. In the case that IAP is not offered, you can either treat this as if there are no sellers, or that the sellers have a value of infinity, in which case, no trades will be made. Whether you hate or love in-app purchases, they are going to be around for a while, because the App Store has evolved into such a large competitive market for the user’s attention and money that the most feasible way for a developer to profit from the “gold mine,” that is the iOS app store, is through in-app purchases.

– Node2


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October 2012