“Preview Provision under Competition”

“Preview Provision under Competition” Yi Xiang and David Soberman April 2012

Agenda • Introduction • Literature Review • Objectives of the Analysis • The Model Structure • The Analysis and Findings • Conclusion D. Soberman, Rotman School, University of Toronto

Introduction • Motivation • Based on a hypothetical couple • Based on real newspapers in the Toronto area • Based on the information these papers contained April 30, 2009 • The Basic Question and the Context for its relevance D. Soberman, Rotman School, University of Toronto

Anecdote John is a law clerk who works downtown Toronto, and Sarah, his wife is a hospital administrator. They each buy a newspaper every morning on their way to work. The day is April 30th, 2009 and on the previous evening and this morning, John and Sarah discussed how swine flu was going to affect Sarah's work at the hospital. In particular, the conversation focused on Sarah's ability to get home in time to meet the children after school. On their way into the subway, both Sarah and John make their choice between two newspapers, the `Toronto Sun' and the `Globe and Mail', which they view in the newsstand. Sarah is interested in learning more about the spread of swine flu and is curious about how this will affect her family's life over the next few days. On the other hand, John has heard more than enough about swine flu (in fact, it was all Sarah wanted to talk about). To start his day, he wants to read about other things. D. Soberman, Rotman School, University of Toronto

There are many different layouts for newspapers as shown in the attached pictures D. Soberman, Rotman School, University of Toronto

Here’s what John and Sarah saw at the newsstand. D. Soberman, Rotman School, University of Toronto

Here’s what John and Sarah saw on the newsstand. D. Soberman, Rotman School, University of Toronto

Key Observations • The Sun’s format makes it clear that there is significant information about Swine flu inside • 9 stories inside about Swine flu • More than 3 full pages of stories • The front page clearly indicates where to find the stories • The Globe’s format makes it more difficult to find out what is inside. There is a story on Swine flu but • Only 3 stories about Swine flu • Only one page (total) of stories on Swine flu • The front page does not indicate where to find the stories D. Soberman, Rotman School, University of Toronto

Interpretation • From the story, it seems John would choose the Globe and Sarah the Sun. • It also seems that the format and the information provided to the consumer (before buying) had a significant impact on consumer choice. • A news provider can choose a format that provides a very precise indication of what is inside • A news provider does not have complete control of the information that is generated each day D. Soberman, Rotman School, University of Toronto

The Basic Question • Previews for products can take many forms • The front page of many publications • Previews aired several hours before a programme is scheduled to air • Early descriptions of product characteristics for products like wine and whisky • The packaging of many products which describes what is inside D. Soberman, Rotman School, University of Toronto

The Basic Question cont’d • For many products the preview is an important ingredient to consumer decision making. • Marketers can design previews to be either • Highly informative of the product characteristics. • Generic previews that do not necessarily indicate the unique characteristics of the product. D. Soberman, Rotman School, University of Toronto

The Basic Question cont’d versus D. Soberman, Rotman School, University of Toronto

The Basic Question cont’d • There are some categories where the marketer does not have complete control of the product attributes. • They are generated by a random process of some kind • This is not the norm: generally marketers do have control of the product attributes. • Categories where this seems to apply include • News products (magazines, newspapers, news reports on TV and/or radio) • Chateau bottled wine where the weather and nature have a significant impact on each year’s vintage. • Ski resorts where the weather has a significant effect on the quality of skiing that patrons will encounter • Resorts (near national parks) e.g. Denali or Kruger, regarding the types of animals that will be present on a tour D. Soberman, Rotman School, University of Toronto

In a nutshell • When firms design previews for their products (that can communicate positioning) and do not fully control product positioning, will they choose to provide informative or uninformative previews? • Will the choice depend on the degree of competition experienced by the firm? • Will the choice depend on the timing of the game? D. Soberman, Rotman School, University of Toronto

In a nutshell • The timing of the game • Preview design, pricing, positioning revealed • Daily newspapers • Preview design, positioning revealed, pricing • Less frequent informative publications • Positioning revealed, preview design, pricing • Previews of wine that is ready to bring to market • This also will serve as a useful test of the robustness of the findings D. Soberman, Rotman School, University of Toronto

2. Literature Review • Related to the literature on media competition • Coase (1974), Besley and Prat (2006), Stromberg (2001) • Compete based on the accuracy and informativeness of news • Related to the literature on news as an entertainment good • Gabszewicz et al (2001), Hamilton (2003), Xiang and Sarvary (2007) • Positioning, slanting, media bias D. Soberman, Rotman School, University of Toronto

2. Literature Review • Related to the literature on informative advertising • Butters (1977), Grossman and Shapiro (1984), Robert and Stahl II (1993) • People only buy if they are informed about the position • Related to the literature on information revelation • Jovanovic 1982, Shavell 1994, Chen and Xie 2005 • Information revelation is strategic and depends on nature D. Soberman, Rotman School, University of Toronto

2. Literature Review Media Competition How clearly do I let consumers know what is inside? (Information revelation) Consumer have preferences for certain stories (Media is entertainment) D. Soberman, Rotman School, University of Toronto

2.Literature Review The Preview lets the consumer know about the position but does not activate the consumer (Informative Advertising) Media Competition How clearly do I let consumers know what is inside? (Information revelation) Consumer have preferences for certain stories (Media is entertainment) D. Soberman, Rotman School, University of Toronto

3. Objectives of the analysis • In a market where product positioning is determined by an exogenous random process, will a monopolist choose to communicate its precise location through a preview? • Does it depend on whether the monopolist sets price before the position is revealed or after? • In a market where product positioning is determined by an exogenous random process, will competitors choose to communicate precise location through previews? • What is the equilibrium preview design outcome under competition? D. Soberman, Rotman School, University of Toronto

3. Objectives of the analysis • How are firm profits affected by preview design strategy? • Do firms lose or gain by having the capability to provide informative previews. • Will the results of the analysis change if • Prices can be set after the revelation of positions instead of before • Product design strategy can be chosen after the revelation of product positions D. Soberman, Rotman School, University of Toronto

4. Model Structure • One or two firms compete in a linear market where products can be positioned from (0,1) • Consumer are uniformly distributed along the market in terms of their preference for positions. D. Soberman, Rotman School, University of Toronto

4. Model Structure D. Soberman, Rotman School, University of Toronto

4. Model structure • Consumers incur a benefit (associated with their ideal news story) less the travel cost (due to the story not being ideal) less the price charged by the firm. • Consumers decide whether individual rationality is satisfied: • CS=v-td-p>0 where v is the benefit for an ideal news story, t is the travel cost, d is the distance from the consumer to the position of the news story, and p is the price charged • When there are two firms, the consumer chooses the product that provides the most surplus D. Soberman, Rotman School, University of Toronto

4. Model structure • The timing of the game • The firm chooses a preview strategy • The firm sets price • The firm receives a random draw from the market • Consumers make a decision which product to buy and profits are realized. D. Soberman, Rotman School, University of Toronto

4. Model Structure • The Firm chooses a preview strategy • The firm chooses q ε (0,1). When q=0, the preview is uninformative. When q=1, the preview is perfectly informative. • The base model considers a binary choice q=0,1 with zero cost for either choice • We later examine continuous q and the impact that costs might have on the outcomes • An uninformative preview can be thought of as a generic message about the category that does not provide details on the product attributes • This is akin to choosing the front page style. Does it quickly and clearly communicate to the potential buyer (within 5 sec) what is inside? D. Soberman, Rotman School, University of Toronto

4. Model Structure • The Firm sets price. • The firm sets a price for its product knowing its own preview strategy • When the firm has a competitor it knows the preview strategy employed by its competitor (these are both long term decisions) when it sets price. • The price is posted and consumers are informed of the price when they make a decision. • The profit of firms is the product of demand and the price charged (the cost of the product is normalized to zero for all firms) D. Soberman, Rotman School, University of Toronto

4. Model Structure • The firm receives a random draw from the market • Nature generates a random draw from the market • When there are two firms, the draws are independent. • The position (chosen by nature) is transmitted (or not) by the preview to potential buyers D. Soberman, Rotman School, University of Toronto

4. Model Structure • Admittedly, for the news category, the same world generates news content but • Newspapers have journalists in different places generating different content • The managing editor needs to make choices about which stories will receive top emphasis • This choice is made without knowing what content will be emphasized by the competitor D. Soberman, Rotman School, University of Toronto

4. Model Structure • Consumers make a decision which product to buy and profits are realized. • Based on the expected location of the product and its price, each consumer assesses the utility of the alternatives • Monopoly: buy or not buy • Duopoly: buy from Firm 1,buy from Firm 2, not buy • When the preview is informative, the consumer knows the location. When the preview is uninformative, the consumer forms expectations about the content • The consumer is aware of the distribution that generates content and knows her own preferences. D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • Consider a situation where q=0 (uninformative) or 1 (informative). • When the timing is Preview design, pricing, positioning revealed • The monopolist earns when the preview is uninformative • When the preview is informative, the monopolist sets • p= when to earn profits of • p=v-t when v>3t to earn profits of v-t • These profits are strictly less than the profits earned by being uninformative. • The monopolist does not gain by providing an informative preview. D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • Preview design, positioning revealed, pricing • Less frequent informative publications • The monopolist earns when the preview is uninformative • When the preview is informative, the monopolist sets • p=v-ty when y<½ and p=v-t(1-y) when y>½ to earn profits v-ty or v-t(1+y). • The expected profits are with a maximum profit of • These profits are strictly less than the profits earned by being uninformative. • The monopolist does not gain by providing an informative preview D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • Intuition • When a firm does not face competition, its objective is to be as optimally located as possible i.e. y=½. • This allows it to charge the highest price possible and still satisfy the individual rationality constraint of all consumers. • The expected location without previews is the optimal location for a monopolist and this is precisely why she does not have an incentive to inform consumers about her location. D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • When the timing is Preview design, pricing, positioning revealed, what happens when firms face competition? • The products are perceived to be homogenous without previews • Bertrand competition leads to profits of zero • When one firm chooses an informative preview, it earns an expected profit of • This is clearly better than zero. • The competitor however, earns an expected profit of • In a nutshell, uninformative previews cannot be an equilibrium • Interestingly, a firm’s decision to implement informative previews conveys a positive externality on the competitor. D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • When both firms choose informative previews • The products are now perceived to be different • The firm set prices in order to maximise profit given the expected distance between the firms • Firm profits are t/2. • This implies that the discrete game has an asymmetric outcome where one firm chooses to provide informative previews and the other does not D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • Do the findings change when the timing is different i.e. Preview design, positioning revealed, pricing • The profits earned when previews are uninformative do not change • Products appear undifferentiated so profits are zero • When one firm provides informative previews and the other does not then the firm with informative previews earns and the competitor earns • When both firms implement informative previews the profits of each firm are D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • The findings are unaffected by the timing though firms that utilize informative previews are more profitable • Being able to set price after position is revealed allows firms to manage competition more effectively • Nevertheless, the findings are unambiguous. • One firm will implement informative previews to reduce competition • The other firm has no incentive to reciprocate. Once a competitor makes its position clear. The expected position of y=½ is preferred to the actual position • The best response to a competitor with informative previews is to utilize uninformative previews. D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • Are these findings due to the discrete nature of the base model i.e. q=0 or 1. • What happens if we allow q to be continuous for both firms? • Will firms choose an intermediate level of preview precision (and hence lead to a symmetric equilibrium) or will an asymmetric outcome survive? • What are the precise characteristics of the asymmetric outcome? D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • The challenge with this problem is that there are there are multiple cases that need to be solved • qi=0 and qj∈ (0,1) • qi=1 and qj∈ (0,1) • qi ∈ (0,1) and qj∈ (0,1) • Already solved in the simple case • qi=0 and qj=1 • qi=0 and qj=0 • qi=1 and qj=1 D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • For each firm when qj∈ (0,1), we assume that a fraction q are informed and a fraction 1-q are uninformed. • This means that when qj∈ (0,1) for i=1,2, we have four groups of consumers uniformly spread along the market • Fully informed, D1: q1q2 • Informed about the location of 1, not 2, D2: q1 (1-q2) • Informed about the location of 2, not 1, D3: q2 (1-q1) • Uninformed about both firms, D4: (1-q1 )(1-q2) D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • From this we construct the objective functions for both firms: • These are optimized simultaneously with respect to p1 and p2 which means that for each pair of q1 and q2 we can find the optimal prices • We then work backward to determine the optimal choice of q for each firm D. Soberman, Rotman School, University of Toronto

When q1>>q2 A pure strategy equilibrium in prices results and the calculations are straightforward D. Soberman, Rotman School, University of Toronto

When q1 is only somewhat larger than q2 A mixed strategy equilibrium in prices results and the calculations are complicated D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • The equilibrium is for one firm to provide informative previews and the other firm to provide uninformative previews • When the cost to increase q is 0, the equilibrium outcome is qi=0 and qj=1 • When the cost of to increase q is positive then the equilibrium outcome is isqi=0 and qj>0 • This underlines the general finding that • The decision of one firm to provide informative previews releases firms from a Bertrand trap • The competitor benefits even more than the focal firm when the focal firm provides informative previews • The competitor has no incentive to respond by creating informative previews of its own D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • We also examine the third alternative in terms of timing • Positioning revealed, preview decision, pricing • A wine producer decides on the “amount of information” to be provided in its preview • In France, this may amount to a decision of whether to list on sites such as http://blog.midi-vin.com and/or www.bienmanger.com D. Soberman, Rotman School, University of Toronto

D. Soberman, Rotman School, University of Toronto

5. The Analysis and Findings • The findings here are similar • At least one firm has an incentive to provide an informative preview • The best response of the competitor is to provide an uninformative preview • Perhaps this explains why less than 50% of the registered vineyards in the Midi-Provence region of France are listed on http://blog.midi-vin.com D. Soberman, Rotman School, University of Toronto

“Preview Provision under Competition”