Advertising and Contestable Market: Evidence form the Greek Mobile Telecommunication Market Zacharias Bragoudakis Bank of Greece, Economic Research Department and George Donatos National and Kapodistrian University of Athens, Faculty of Economics
ABSTRACT A firm uses advertising as a key-factor in order to diversify its marketing strategy particularly in case which operates in a highly concentrated sector as the Greek mobile telecommunication market is. The advertising expenditure policy aims to develop a comparative advantage in which the firm gains important benefits in terms of market share contestability. The empirical investigation between sales (new contracts) and advertising expenditure for a group of three major firms of the Greek mobile telecommunication market provides evidence that the advertising expenditure plays a substantial role on the redistribution of the market shares.
Keywords: Advertising expenditure, mobile telecommunication, contestable market, sector competition, reaction functions. JEL: M31, M37.
Acknowledgements: The views expressed are those of the authors and should not be interpreted as those of their respective institutions. Any errors or omissions remain the authors‟ own.
Correspondence: Zacharias Bragoudakis Economic Research Department Bank of Greece, 21, E.Venizelos Avenue, 102 50 Athens, Greece, Tel. +30210-3203605 E-mail:
[email protected]
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1. Introduction
The advertising expenditure has been accepted in the international literature as one of the major explanatory variables for the interpretation of firm revenues fluctuations. Following an effective advertising strategy a firm could gain at least two potential benefits: firstly, a comparative advantage in terms of product diversification which induce a boosting of brand name in market, which in turn implies a maintenance of the existing customer basis and secondly by attracting new customers (Lilien (1994), Eachambadi (1994), Comanor and Wilson (1979)). Nevertheless the investigation of the advertising impacts on firm revenues can be much more complicated if the sector in which the firm operates has an oligopolistic structure and if it has reached its saturation level. The marketing strategy under the restrictions of oligopolistic structure and market saturation creates a sequential contestable game for market share domination (Parker& Roller (1997), Valleti & Cave (1998), Reekie (1975), Sutton (1974)). Each firm that takes part in such contestable market game tries to change its advertising expenditure properly and simultaneously subject to competitors‟ strategy. The Greek mobile sector has an oligopolistic structure with high degree of concentration because it consists of three firms: Cosmote, Vodafone and Wind which fully cover the domestic demand. The full cover of the domestic demand implies that the mobile sector is saturated. Thus, the advertising probably could play a substantial role both on firm sales as well as on market shares redistribution among the above three firms. However, to the best of the author‟s knowledge, no attempt has been made to empirically explain the impact of advertising expenditure on sales in the Greek mobile market. The main purpose of this paper is to empirically investigate the relationship between sales (new contracts-connections) and advertising expenditure in the Greek mobile sector. The rest of the paper is organized as follows: section 2 briefly presents a review of the Greek mobile sector developments. In section 3, the econometric methodology and the empirical results are presented while section 4 provides some concluding remarks.
2. A bird’ eye view of the Greek mobile sector developments 2
The Greek mobile sector consists of three firms: Cosmote, Vodafone and Wind. There was another firm in the sector named Q-Telecom which also operated since 2002 but its market share was too small and it was merged finally with Wind in 2006. Wind and Vodafone operate in the Greek telecommunication market since 1993 and 1994 respectively while Cosmote since 1998. The term „„sales‟‟ denotes new contracts or new mobile permanent connections (excluding connections without contract). The extent of nominal penetration (total sales / total population) is considered as a reliable indicator of the saturation level in the Greek mobile sector. According to Gruber and Verboven (1999) a market can be characterised as “saturated” if the penetration exceeds the critical point of 60%. It is concluded from the selected data that the Greek mobile telecommunication sector was saturated in 2001. It is worth noting that the extent of nominal penetration of the three firms is very high, reaching at 135.4% of the total population in 2006 while it is expected to reach at 145% by the end of 2007 (Figure 1).
Figure 1: Extent of nominal penetration 160,0% 140,0% 120,0% 100,0% 80,0% 60,0% 40,0% 20,0% 0,0% 1999
2000
2001
2002
2003
2004
2005
2006
It is also important to examine the „„real‟‟ extent of penetration. As real penetration we mean the indicator which derives from relating one customer to one connection, ignoring the fact that someone could have more than one mobile connection at the same time. According to estimations of the three examined firms,
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the percentage of the real penetration in the Greek mobile market fluctuates between 85% and 90% of total population, placing the country among the first in the world. The market share of each firm is calculated as follows; dividing the total number of sales of each firm by the total number of sales of the whole sector, while the average advertising expenditure of each firm indicates the advertising expenditure per new sale. According to the criterion of market share, the leader in the Greek mobile sector is Cosmote since 2001 and the followers are Vodafone and Wind, respectively (Table 1). More specifically, the market shares of Cosmote, Vodafone and Wind were 39%, 36.3% and 24.7% respectively in 2006.
Table 1. Indicators of intra-sector competition
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
Sub-period 1999-2001 Average
8.7
19.0
35.9
54.7
72.3
84.9
99.5
112.1
124.5
135.4
54.3
111.3
Wind
32.8
25.1
29.1
34.9
23.0
26.3
25.3
24.4
29.0
26.8
Vodafone
30.7
25.8
39.0
87.7
68.5
87.1
98.5
109.8
31.8
90.3
Cosmote
15.1
15.8
29.3
48.7
48.8
61.7
75.7
92.8
20.1
65.5
Nominal penetration (%) (sector sales / total population) Average advertising expenditure ( € / new connection)
Sub-period 2002-2006 Average
Market shares (%) Wind
41.7
33.5
30.5
28.0
26.6
26.6
26.1
25.6
25.1
24.7
28.4
25.6
Vodafone
58.3
51.9
42.2
37.2
36.0
35.2
35.5
35.6
35.8
36.3
38.5
35.7
Cosmote
-----
14.6
27.3
34.8
37.4
38.2
38.5
38.9
39.0
39.0
33.2
38.7
Source: Research Department of Wind, Initiative Media, NSSG and own estimates.
In the middle of 2001, the Greek mobile sector came in saturation and at the same year Cosmote became the leader while Vodafone went down to the second rank, as first follower of the sector. The average growth rate of Cosmote market share was 40.7% in the period 1999-2001, but sharply decreased to 0.9% in the period 20022006 due to the phenomenon of saturation in the sector as well as to Vodafone‟s offensive campaign which increased the advertising expenditure on average by 30.9 %( from 31.8 to 90.3 euros per new connection). It is noted that Vodafone increased 4
its advertising expenditure to 124.8% in 2002 in order to become again the leader of the sector. However, the market share of Vodafone was decreased on the average by 2.8% (from 38.5% in 1999-2001 to 35.7% in 2002-2006). Respectively, the market share of Wind edged also down on average by the same percentage of 2.8% (from 28.4% in 1999-2001 to 25.6% in 2002-2006). On the contrary, the market share of Cosmote was increased on average by 5.5% (form 33.2% in 1999-2001 to 38.7% in 2002-2006) which reveals strong intra-sector contestability (Table 1, Figure 2). Figure 2: Market shares (Firm sales / total sector sales) 45,00% 40,00% Cosmote
35,00%
Vodafone 30,00%
Wind
25,00% 20,00% 1999 2000 2001 2002 2003 2004 2005 2006
Figure 3: Advertising expenditure / new connection (€/ new connection) 120,00 100,00 80,00
Cosmote
60,00
Vodafone Wind
40,00 20,00 0,00 1999 2000 2001 2002 2003 2004 2005 2006
The growth rate of advertising expenditure per new connection of Vodafone was sharply increased on average from 17.7% (2000-2001) to 30.9% (2002-2006),
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implying a substantial change of the advertising strategy of the firm. In other words, when Vodafone was leader of the sector in period 1999-2001 its advertising expenditure was about 31.8€ per new connection, while for the period of 2002-2006 in which Vodafone was follower it raised to 90.3€ (Table 2).
Table 2. Growth rates of Average advertising expenditure and market shares Sub-period Average (1999-2001)
Sub-period Average (2002-2006)
Total period Average (1999-2006)
Wind
-3.8
-1.4
-2.1
Vodafone
17.7
30.9
27.1
Cosmote
45.2
27.6
32.6
Annual growth rate of average advertising expenditure (%)
Annual growth rate of market shares (%) Wind
-7.3
-1.5
-3.7
Vodafone
-11.3
0.2
-4.1
Cosmote
40.7
0.9
15.8
Source: Research Department of Wind, Initiative Media, NSSG and own estimates.
Regarding the advertising expenditure of Cosmote, this was on the average 20.1€ per new connection in period 1999-2001 while it reached 65.5€ for the period of 2002-2006.On the contrary, the growth rate of advertising expenditure per new connection of Cosmote sharply declined on the average from 45.2% (2000-2001) to 27.6% (2002-2006), indicating a moderate advertising policy compare with Vodafone‟s policy (Table 2). However, the offensive advertising campaign of Vodafone from 2002 and afterwards was not able to bring the firm back in the leadership of the sector but it helped to stabilize the diminishing trend of its market share. On the other hand, Wind seems to follow a different kind of advertising strategy in the sense of not getting involved in the game of domination. Even though Cosmote surpassed the market share of Wind in the first semester of 2000, Wind did not react with a similar to Vodafone‟s strategy, which sharply increased advertising expenditure. Wind market share was continuously diminishing from 41.7% in 1997 to 24.7% in 2006 indicating, to some extent the inefficiency of Wind‟s advertising strategy during the examined period. The negative growth rate of advertising expenditure per new connection of Wind in the examined periods also supports the
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last finding. Therefore, it seems that Wind follows a much lower advertising expenditure strategy compared to its competitors (Table 1, 2 and Figure 3).
3. Econometric Investigation
3.1
Methodological issues The empirical investigation of the relationship between advertising
expenditure and sales is based on a model which consists of a set of dynamic equations designed for each of the three firms. The general form of the model can be written as follows: SCosmote = f (St-i Cosmote, Dt-j Cosmote, Dt-j Vodafone, Dt-j Wind)
(1)
S Vodafone = f (St-i Vodafone, Dt-j Cosmote, Dt-j Vodafone, Dt-j Wind)
(2)
S
where
Wind
= f (St-i
i=1,…,n. and
Wind
, Dt-j
Cosmote
, Dt-j
Vodafone
, Dt-j
Wind
)
(3)
j=0,…,m.
The impact of advertising expenditure ( Dt ) on sales ( St ) is estimated by using a dynamic equation which is known as “reaction function” because it indicates how the sales of a firm, for instance of Cosmote, react to changes of the advertising expenditure of Cosmote, Vodafone and Wind. We estimate three reaction functions one of each firm. A reaction function in a general form can be written as follows:
m
n
St = c0+
ai St-i + i 1
where i=1,…4.
bj Dt-j +et
and et i.i.d N(0,σ2 )
(4)
j 0
and j=0,…,m.
The time lags of the sales S t
i
are included in the equation in order to capture any
possible addiction or consumer confidence behavior which impacts on the current sales St (Elliott (2001), Bass και Clarke (1972), Bass (1969)). The effect of time lags of the sales S t
i
on the current level of sales St is examined jointly, over the period of
one year (four quarterly lags). If the jointly impact of lags is positive and statistically significant, that means a strong consumer confidence for the products of firm. 7
The term Dt
j
measures the impact of advertising expenditure on the current level
of sales St . It should be noted that if the products (contracts) between two firms have a set of similar properties which means homogeneity, it is hard for advertising to succeed an effective diversification. The last indicates a failure of advertising and we should not be surprised if advertising of one firm has a positive impact on sales of a rival. The estimation covers the period from 1999:1 to 2006:4 and was carried out with non-seasonally adjusted data .The data are quarterly time series. The range of the sample was selected according to the availability of the data. We also used the national consumer price index (CPI) to deflate the current prices of the advertising expenditure. The data are all in first differences of logs, therefore the coefficients of the estimated dynamic equations are elasticities. We follow the “general to specific” methodology (Krolzig and Hendry, 2001) for the specification of the model and estimate the model using the OLS method. The parsimonious equations derived by taking into account both the statistical fitting over the investigated period and the economic meaning of the coefficients. It should be noted that the specification of the model‟s equations is data-instigated rather than derived from a formal theoretical model of sales determination. The empirical formulation of the model exploits the autocorrelation structure of the data. Seasonal dummies (SeasDt) were added to all the equations, based on the assumption that the seasonal pattern of inflation is stable over time. Impulse dummies have also been included in the model to capture any outlier fluctuation. Table 2 presents the results of the estimated reaction functions and Table 3 presents the diagnostic tests.
3.2
Econometric results
Table 2 presents the results of the estimated reaction functions and Table 3 presents the diagnostic tests. The estimated reaction functions succeed to pass the diagnostic test of DW and LM for the existence of 1st, 2nd and 4th order of autocorrelation of residuals. The value of R2 is high for all equations indicating a good fitting (the model exploits the autocorrelation structure of the data) despite the fact that the demand of new contracts (mobile connections) depends on many other
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qualitative and quantitative variables such as the pricing policy, the after sale services and etc. Table 2. Results of the estimated Reaction functions
Constant Cosmote St-1,t-2,t-3,t-4 Vodafone St-1,t-2,t-3,t-4 Wind St-1,t-2,t-3,t-4 Cosmote Dt Cosmote Dt-1 Cosmote Dt-2 Cosmote Dt-3 Vodafone Dt Vodafone Dt-1 Vodafone Dt-2 Vodafone Dt-3 Wind Dt Wind Dt-1 Wind Dt-3 Wind Dt-2 Wind Dt-4
SeasD1 SeasD2 SeasD3 DV0002 DV0302
Cosmote StCosmote
Vodafone StVodafone
Wind StWind
-7.299 * 0.017
23.354 *
3.504 *
-0.201 * 0.727 * 1.307 * -0.316 * -0.759 *
-0.464 * 0.176 *
0.204 *
-0.142 *
0.262 * 0.306 * 0.120 * -0.311 * 0.295 * 0.177 -0.025 0.811 * -0.076 * -0.049 *
-0.334 * 0.134 * -0.243 *
DV0304
-1.01 * -0.119 -0.728 *
-0.096 *
* Denotes rejection of the null hypothesis for the 5% significance level.
Table 3. Diagnostic tests COSMOTE St 2
R adj. DW ** LM(1) (p-value) ** LM(3) (p-value) Jarque-Bera (p-value)
Cosmote
0.990 2.250 0.600 0.119 0.797
VODAFONE St
Vodafone
0.932 1.727 0.772 0.689 0.786
WIND St
Wind
0.984 1.640 0.149 0.098 0.757
** The LM test is a χ2 test for second and fourth order autocorrelation of the residuals.
We also carried out a CUSUM of squares test to examine the stability of the estimated coefficients. The test finds parameter stability if the cumulative sum of squares of the recursive residuals stays inside the area between the two critical lines.
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The test clearly indicates stability in the equations during the sample period (Figure 4). Figure 4. Stability tests
Stability test of estimated coefficient Cosmote
Wind
Vodafone
1.6
1.6
1.6
1.2
1.2
1.2
0.8
0.8
0.8
0.4
0.4
0.4
0.0
0.0
0.0
-0.4 04Q1 04Q3 05Q1 05Q3 06Q1 06Q3
-0.4 2003
2004
CUSUM of Squares
3.3
2005
2006
-0.4 04Q1 04Q3 05Q1 05Q3 06Q1 06Q3
5% Significance
Empirical findings
According to Cosmote estimated reaction function, a 1% increase in advertising expenditure is estimated to correspond to a 1.307% increase in sales, which means a successful campaign from the side of Cosmote over the examined period. Yet, a 1% increase in advertising expenditure of Vodafone is estimated to decrease by 0.759% the current level of Comsote‟s sales. The last finding indicates that Vodafone use the tool of advertising very effectively in order to gain market share from Cosmote and it is known as “offensive advertising”. On the other hand, 0.262% is the elasticity of Comsote‟s sales with respect to Wind‟s advertising expenditure, which implies a failure from the side of Wind to diversify effectively its products against to Comsote‟s sales. Finally, the jointly impact of lags is almost zero and statistically insignificant, which means a neutral consumer confidence for the products of Cosmote over one year past. The estimated reaction function of Vodafone indicates that a 1% increase in advertising expenditure is estimated to correspond to a 0.176% increase in sales, which means a lower effectiveness of Vodafone‟s advertising to promote its products compare to Comsote‟s campaign. On the contrary, -0.464% is the third lag elasticity of Comsote‟s advertising expenditure with respect to Vodafone‟s sales, which implies
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a sluggish negative impact of Comsote‟s advertising expenditure on Vodafone‟ sales. The last finding in combination with the results of Comsote‟s reaction function indicates that Vodafone‟s campaign is more offensive than Comsote‟s campaign is, finding which also has been concluded in section 2. Moreover, the advertising campaign of Wind has a negative impact on Vodafone‟s sales by 0.311%, which implies to some extent, a success of Wind to diversify effectively its products against to Vodafone. Finally, the jointly impact of lags is negative and statistically significant, which reveals a lack of consumer confidence for the products of Vodafone. The reaction function of Wind provide evidence of low efficiency of Wind to promote its products successfully, since an increase of advertising expenditure by 1% rise its current sales only by 0.120% after three quarters have passed. An increase of advertising campaign of Cosmote by 1% decline the sales of Wind by 0.316%, while in contrast, an increase of the advertising campaign of Vodafone increase the Wind‟s sales by 0.204%. It should be noted that the jointly impact of lags in this function is positive and statistically significant, which implies a strong of consumer confidence for the products of Wind. The last finding probably results from the high proportion of wholesale (corporate connections) contracts in the Wind client-list, in the sense of a wholesale-client consider more rigid and unwilling to replace a mobile telecommunication firm than a retail-client, due to the higher cost. Finally, we sum up the findings in Table 4.
Table 4. Effects of Advertising expenditure on sales Sales
Summary of directions StCosmote
StVodafone
StWind
DtCosmote
+
-
-
Vodafone
-
+
+
+
-
+
Advertising expenditure
Dt
DtWind
4. Concluding Remarks The mobile telecommunication sector in the Greek market has two main characteristics: high concentration and high penetration rate which jointly stimulate intra-sector contestability. The empirically investigation of the relationship between
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advertising expenditure and sales of new contracts provides evidence of how important is the impact of advertising on market share redistribution among firms. That is, the advertising expenditure of Cosmote has a negative impact both on sales of Vodafone and Wind. On the contrary, the advertising expenditure of Vodafone has a positive impact only on sales of Wind while there is a negative effect on Cosmote‟s sales. As it is expected, the advertising strategy of the two main competitors, Cosmote and Vodafone, is offensive and focus mainly on how one firm could gain market share from its rival. It should be noted that even thought the average advertising expenditure of Vodafone is much higher compare to Cosmote over the examined period; Vodafone can not regain the leadership of the sector. On the other hand, the advertising expenditure of Wind has a negative impact on sales of Vodafone but there is a positive effect on Cosmote‟s sales. In addition, it is clear that Wind does not seem to goal the leadership of the domestic mobile sector, following a strategy of a much lower advertising expenditure compared to Cosmote and Vodafone. The last conclusion meets with the strong consumer confidence for Wind and partially justifies the low advertising expenditure of the firm.
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