Sunday, August 5, 2007

Impact of Advertisements and the Early Player Advantage in Marketing

I had recently come across the 4 P's in marketing, viz. Product, Price, Place, Promotion. Selling the right product at the right price at the right place after the right promotion is called marketing. Normally people (including myself till recently) think of only promotion(advertising and branding) but in reality it involves lot of different steps till the final transaction - ie the sale.

Here I would like to take a look at one of these four P's - Promotion. Ideally promotion is supposed to negate the effects of information asymmetry in the market by letting prospective customers know of the truth(all aspects good and bad) about your product and why it should be preferred over your competitor's product. Promotion should thus tend to lead to Information symmetry. In reality this is far from what is happening in the market. Promotion seldom lets the market know about all aspects about a product and often it dresses falsehood in the garb of truth.

Let us consider two products A and B by two companies X and Y respectively. To illustrate the effects of promotion in the actual sales of the product, revenues of the companies, and even the qualities of the products we will be considering several scenarios for the two products and the two companies.

1) Let A and B be of similar quality and X has more capital than Y. Since X has more capital than Y, X would be able to invest more into marketing and reach more people and hence sell more than Y. Selling more should give X more revenues than Y and the growth rates of X should be more than Y and X leading to even further differences in capital between them.

2) Now consider the same scenario as above but where A is slightly inferior to B. Since X has more capital than Y, X would be able to invest more into marketing and reach more people. If the quality difference is small and the capital difference is high enough to cover the extra marketing costs to cover the reduction in quality, X should be able to sell more A than Y sell B. Since selling more should give X more revenues than Y and the growth rates of X should be more than Y and X leading to even further differences in capital between them.

3) Suppose A is vastly inferior to B and X has vastly more capital than Y. The conclusion of scenario 2 applies here provided the product A meets the basic requirements for such kinds of products. B would still capture the market where Y is playing but the market size will be very small and with the small growth rates would take forever to cover the same market as X.

4) Consider the scenario where A was the only product in the market and X a very large company with sufficiently large capital. If Y now enters the market with product B, which is comparable, lower or better in quality than A, irrespective of the quality Y would have to invest enough into marketing such that the market share growth of B would pay for the costs in marketing while leaving enough for the growth of the company Y.

These are only hypothetical cases and the actual correlation with the increase of revenues and promotional activities would depend a lot on other factors as well. The point I wanted to make was the large effects of promotion on revenue growth. It is not just about the quality of the product that decides how well the product sells in the market (which is a pity). It depends a lot on how successfully companies manipulate the information asymmetry in the market. This I feel is unfair. Additionally the early player advantage is also slightly unfair in cases where the quality of product of newer player is superior to the earlier players.

The reason why the above two factors are considered unfair is that they are not normally effects of the efforts of the person, which should normally translate to the quality of the product. Sometimes they could be, but even in such cases the advantages are unfair when the quality of the losing product is better.

If we had a system where we could put perfect information in the market, it should theoretically take out, to a certain limit, the dependencies on revenues and growth on such unfair factors as above. Even with perfect information people would still like to deceive themselves and make irrational choices. But still we would have a system where revenues and growth would be more correlated to quality than what we have in the current system.

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