We are all aware of the fierce competition by Internet Service Providers (ISPs) to get our business. For example, MSN is always trying to attract AOL’s customers, and vice versa. Some are even giving...

We are all aware of the fierce competition by Internet Service Providers (ISPs) to get our business. For example, MSN is always trying to attract AOL’s customers, and vice versa. Some are even giving away prizes to entice us to sign up for a guaranteed length of time. This example is based on one such offer. We assume that an ISP named AOSN is willing to give a customer a free PC, at a cost of $700 to AOSN, if the customer signs up for a guaranteed 3 years of service. During that time, the cost of service to the customer is a constant $21.95 per month, or $263.40 annually. After 3 years, we assume the cost of service increases by 3% annually. We assume that in any year after the guaranteed 3 years, the probability is 0.7 that the customer stays with AOSN. As in the previous example, this is the retention rate. We also assume that if a customer has switched to another ISP, there is always a probability of 0.1 that the customer (without any free PC offer) willingly joins AOSN. AOSN wants to see whether, in terms of NPV with a 10% discount rate, this offer makes financial sense. It also wants to see how the NPV varies with the retention rate.

Objective To use simulation to estimate whether it makes sense for an ISP to give away a free PC for a promise of at least 3 years of customer loyalty, and to see how the answer varies with the retention rate.