Pay-per-click (PPC) is a common pricing model used to pay for ads on the Web and is open to the possibility for click fraud, where clicks are not from a legitimate user. Identifying click fraud is generally done in a three-stage process: the service provider (SP) first classifies clicks as fraudulent or not, then the advertiser does the same with a different technology, and if there is a disagreement, the SP examines further and his conclusions are considered binding. The advertiser pays for clicks that are identified as valid in the first two stages or confirmed as valid in the last stage. We model the choice of the identification technologies as a double moral hazard problem. We analyze the case where the PPC is incentive compatible to overcome the moral hazard problem, and examine the question of whether the incentive compatible PPC is sufficient to incentivize the two parties to unilaterally make further improvements to their identification technologies and simultaneously increase their profits. We show that when the cost of the third-stage identification technology is large, which is likely to be the case because of its complexity and use of expensive human experts, the incentive compatible PPC does not support unilateral technological improvements. We then examine a setting where the third-stage identification is delegated to a third party and find that this arrangement can induce unilateral improvements to the identification technologies in the first two stages. Collectively our results show that although the PPC model itself may not induce improvements in the first two stages of click fraud identification, a common arrangement espoused of having a third party resolve disagreements helps make PPC support unilateral technological improvements. Accordingly, we show an indirect benefit to the third-party arrangement.
We study agency problems that arise when prototypes are used for requirements assessment. The precision with which the prototype helps a client assess his requirements depends on (a) the type of prototype provided by the vendor and (b) the client's feedback effort. The vendor can provide either a neutral or nonneutral prototype: The nonneutral prototype influences the client towards one particular set of requirements that may not be the true requirement, and the neutral prototype allows the client to assess his true requirements. This leads to the vendor's moral hazard problem. The client chooses to exert either the high or low feedback effort after the vendor provides the prototype. Because the effort is unobservable to the vendor, it can lead to the client exerting the low feedback effort: the client's commitment problem. In this paper we develop and discuss the role of the contract payment to provide the vendor with incentives to supply the neutral prototype, as well as for the client to commit to the high feedback effort. In this setting, we also examine the "anchoring" effect, wherein even a high-feedback effort can influence the client more toward a particular set of requirements with the nonneutral prototype. Our results highlight the interplay among the feedback effort, anchoring, and vendor payments.
Software product versioning (i.e., upgrading the product after its initial release) is a widely adopted practice followed by leading software providers such as Microsoft, Oracle, and IBM. Unlike conventional durable goods, software products are relatively easy to upgrade, making upgrades a strategic consideration in commercial software production. We consider a two-period model with a monopoly software provider who develops and releases a software product to the market. Unlike previous research, we consider demand variability and endogeneity to determine the functionality of the software in the first and second periods. Demand endogeneity is the impact of the word-of-mouth effect that positively relates the features in the initial release of the product to its demand in the second period. We also determine the design effort that should be spent in the first period to prepare for upgrading the product in the second period—upgrade design effort—to tap into the possible future demand. Results show that the upgrade design effort can be lower or higher when there is more market demand uncertainty. We also show that the features of the product in its initial release and upgrade design effort can be complements as well as substitutes, depending on the strength of the word-of-mouth effect. The results in this paper provide insights into how demand-side factors (market demand variability or demand endogeneity) can influence supply-side decisions (initial features and upgrade design effort). A key insight of the analysis is that a high word-of-mouth effect helps manage the product in the face of demand variability.