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Friday, November 12, 2004
Developers and Economics
By Nick Hodges (Nick) @ 9:06 AM :: Editorial - Nick :: 8 Comments :: 472 Views

I never cease to be amazed at how little the average developer knows about economics. I mean, I don't claim to be an expert, but I have taken a college class or two and read up on the basics. Even just understanding the basics, though, gives one surprising insight into why things happen the way they do in the marketplace.

For instance, we are in the process of hiring a new developer at my company. We figured out what qualifications we were looking for and determined about how much salary we wanted to pay. It quickly become apparent, however, that we weren't offering a high enough salary to attract the caliber of candidates we wanted. So what I did was to go on the newsgroups and start whining about not being able to find any good Delphi programmers. Okay, no, I didn't really do that. What we did, of course, was to increase the salary that we were offering. Simple supply and demand issue: There wasn't enough of a supply of good Delphi programmers at the price we wanted to pay, so the solution is to be willing to pay more – a no-brainer decision, really. Once we did that, we found that we have been able to find plenty of valuable candidates. Simple economics.

One common area that I see developers totally misunderstand is that of Delphi pricing. One thing you learn in Economics 101 is that the vast majority of companies are “price searchers”. That is, they are constantly searching for a price that will maximize their profits. (Some companies, mainly producers of commodities, are “price takers”. That is, they take whatever price is offered. Farmers are a good example. A corn farmer can only sell his corn at market price. If he asks for more, the market will simply buy corn from another farmer that will take the offered price). Borland is definitely a price searcher. They can set their prices as they please, and will do so to maximize profit. Of course, the market will respond to any particular price by demanding a certain number of units at that price. Price searchers are constantly adjusting prices to maximize the amount of money they make.

Note that they don't set price to maximize revenue, but rather profit. The cost of goods sold is a factor here as is the cost of simply having customers. Sometimes a company will actually price a product in order to limit the number of customers they have in order to maximize profits as sometimes having additional customers causes decreased profits. (That may be a bit counter-intuitive, but think of a product that has high production and support costs.) So for example, sometimes doubling your price can increase profits even though it drastically reduces sales. If doubling the price cuts the number of customers you have in half, but also cuts your production and support costs in half as well, your profit increases. (This is a very simple example, and it is actually hopelessly more complicated than that, but you hopefully get the basic idea).

So Borland, having learned from years of experience and copious sales data, is quite aware of what effect various prices have on sales. No doubt by now they have a pretty good idea what price will maximize their profits and how price changes will effect sales.

Where it gets really interesting is pricing outside of the United States. Europe, of example, is a completely different market than the US. Taxes, the demand curve, and the number of potential customers are all different. Borland clearly believes that they need to – and can – charge more in Europe than in the US. The price difference is not related to the exchange rate between the Euro and the Dollar; it has everything to do with maximizing profits. Clearly Borland believes that a higher price in Europe – again, a completely different market – will mean higher profits. That's why Delphi costs more in Europe. I suppose Europeans could view this as “price gouging”, but in reality, it's just the market signaling to Borland that it will bear a higher price than will the American market. Simple economics.

Another economic blunder that developers frequently make is ignoring economies of scale. Borland is a big company that is publicly traded. Many Delphi developers work in small, private companies. Borland has legal obligations, overhead costs, and market demands that most little-shop developers don't even know about, much less take into consideration. Borland's main competition is one of the largest corporations in the world. Borland faces investors who expect a return. Borland has to deal with major entities in the media that can write things that can have profound effects on Borland's business. All of this combines to make running Borland a complex and difficult task that most of us simply don't comprehend.

So I love it when a developer posts in the newsgroups something like this: “Borland should just hire two college students to go through and fix all the Delphi bugs in Quality Central.” Well, that sounds great, but is clearly isn't that simple. First, fixing bugs in a big product like Delphi is no small, trivial task. Finding people with the talent and skill to do Delphi bug-fixing isn't easy. And they certainly aren't going to be cheap. The notion that some college interns can do it is quite naïve. The economic blunder comes, though, in thinking that the cost of fixing all those bugs is merely the salary of a couple of developers. First, employees aren't cheap, no matter who you hire. Human capital is by far the most costly – and valuable – part of doing business. Secondly, I don't know what your development process is like, but bug fixing at Borland is more than a guy hacking out some code. Every fix has to be extensively tested for efficacy and correctness, and then the whole product has to be regression tested to ensure that any given fix doesn't actually break something else. Fixes need to be incorporated into shipping product and distributed to existing customers. The documentation needs to be updated. And who know what else needs to be done? The point is this: the costs of things that many people think are small are in fact much larger than the average developer appears to realize.

The economics of running a business like Borland isn't something about which I claim to be an expert. But I do know that I don't know enough to be able to claim to know better than Borland. Something to consider before you fire off a post in the newsgroups that starts out “Borland ought to just....”

Comments
By Michael 'mikepence' Pence @ 11/12/2004 12:39 PM
Thanks, Nick. Once more post of this caliber and I can delete Code Fez from my RSS feed.

By Parmod 'PGandhi' Gandhi @ 11/12/2004 3:15 PM
Thanks Nick. I am a small developer and even though what you mention is elementary economics, I often forget that. Yes it makes perfect sense to me. For Borland it is especially true since they are up against companies like Microsoft, Sun, IBM, who are fully capable of swallowing them whole and not even let out a belch. If Borland does not make profit Delphi will perish and my programming/hobby career with it. It is as simple as that. I love and rely of Delphi enough to know that I will shell out whatever they ask and not complain too much, assuming I have that money. Some people like fancy cars, I like friendly programming tools. It may also be because I spend more time programming and very little time driving. Oh darn, I just realized, I need got to get a life.

By Steve 'steve' Teixeira @ 11/12/2004 4:09 PM
Interesting article, but I do think this misses a couple of important economic details, which I have addressed in my own editorial: http://www.codefez.com/Default.aspx?tabid=79&newsType=ArticleView&articleId=33

By Nick 'Nick' Hodges @ 11/13/2004 12:05 PM
What's the problem, Mike? Basic economics get you down?

By Allen 'abauer' Bauer @ 11/16/2004 5:09 PM
Wow, Nick... Controversy seems to follow you around like an "entropy wake." ;-).. Either way, I found both your comments and Steve's very insightful. I, like you, don't consider myself an economic genius by any stretch, but I do understand the basics if only to recognize some of the dynamics in play.

By Nick 'Nick' Hodges @ 11/18/2004 8:18 AM
Allen -- I have found that clear, well presented thought often is controversial.

;-)

By Parmod 'PGandhi' Gandhi @ 11/19/2004 1:28 PM
Nick, I think your point was well presented and in part agreed by many that this is the way business runs today. However, it also appears that you took offense when Steve's point of view in next thread disagreed with yours.

I think your point of view is how things work, while Steve's and Charlie's point of view is how things should work. Maybe I am naive but it appears that these are two different subjects, albeit related.

By Nick 'Nick' Hodges @ 11/30/2004 8:43 AM
Parmod --

I didn't take any offense at all. Just arguing my point.

Nick

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