Software Piracy and Outsourcing in Two-Sided Markets

70 Pages Posted: 23 May 2018 Last revised: 20 Oct 2019

See all articles by Masakazu Ishihara

Masakazu Ishihara

New York University (NYU) - Leonard N. Stern School of Business

Eitan Muller

New York University (NYU) - Department of Marketing; Interdisciplinary Center (IDC) Herzliyah

Date Written: October 17, 2019

Abstract

This paper examines the role of software piracy in digital platforms where a platform provider makes a decision of how much software to produce in-house and how much to outsource from a third-party software provider. Using a vertical differentiation model, we theoretically investigate how piracy influences the software outsourcing decision. We find that when piracy is intermediate, the loss in in-house software profits due to piracy outweighs the loss in licensing fee profits. As a result, an increase in piracy leads to more outsourcing. However, when piracy is high, it becomes too expensive for the platform provider to subsidize the software provider, resulting in a decrease in outsourcing. Moreover, when software variety is also endogenously chosen by firms, the platform provider's incentive to develop software variety in-house depends not only on the return from software profits but also on the return from hardware profits. Under such a situation, an increase in piracy always leads to less outsourcing and less total software variety. To provide additional insights on the outsourcing decision, we conduct empirical analyses using data from the U.S. handheld video game market between 2004 and 2012. This market is a classical two-sided market, dominated by two handheld platforms (Nintendo DS and Sony PlayStation Portable) and is known to have suffered from software piracy significantly. Our regression results show that in this market, piracy increases outsourcing but has no effect on the total software variety.

Keywords: Software Piracy, Two-Sided Markets, Outsourcing, Video Games

JEL Classification: D21, D22, K42, L24, L86

Suggested Citation

Ishihara, Masakazu and Muller, Eitan, Software Piracy and Outsourcing in Two-Sided Markets (October 17, 2019). Available at SSRN: https://ssrn.com/abstract=3177129 or http://dx.doi.org/10.2139/ssrn.3177129

Masakazu Ishihara (Contact Author)

New York University (NYU) - Leonard N. Stern School of Business ( email )

44 West 4th Street
Suite 9-160
New York, NY NY 10012
United States

Eitan Muller

New York University (NYU) - Department of Marketing ( email )

Henry Kaufman Ctr
44 W 4 St.
New York, NY
United States

Interdisciplinary Center (IDC) Herzliyah ( email )

P.O. Box 167
Herzliya, 46150
Israel

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