Short-term and long-term competition between providers of shrink-wrap software and software as a service

Software as a service (SaaS) has moved quickly from a peripheral idea to a mainstream phenomenon. By bundling a software product with delivery and maintenance service, SaaS providers can effectively differentiate their products with traditional shrink-wrap software (SWS). This research uses a game theoretical approach to examine short- and long-term competition between SaaS and SWS providers. We analyze the factors that affect equilibrium outcomes, including user implementation costs, SaaS provider’s operation efficiency, and quality improvement over time. Bundling software with service lowers software implementation cost for users, and our results suggest that it increases equilibrium prices. In providing software services, SaaS providers have to incur significant operation cost. In the long run, service operation cost may significantly affect SaaS firm’s ability to improve its software quality.