Response to Competitive Entry: A Rationale for Delayed Defensive Reaction

Kalra, Ajay; Rajiv, Surendra; Srinivasan, Kannan
December 1998
Marketing Science;1998, Vol. 17 Issue 4, p380
Academic Journal
Abstract Empirical studies examining responses to new product entries come to the puzzling conclusion that, in general, an incumbent reacts to a new entrant after a significant delay. Even easy-to-implement price cuts are observed after significant lag following entry. These findings seem to contradict the existing literature that either implicitly assumes or strongly advocates immediate defensive responses to limit competitive encroachment. When a competing firm enters the market, consumers may be uncertain about the entering firm's product quality. The incumbent firm (through rigorous tests) may fully know the entrant's quality. Suppose the incumbent aggressively lowers price. This may cause the consumers to wonder if indeed the entrant's quality is high. In other words, an incumbent's reaction may cause the consumers to make inferences about the entrant's quality. Such strategic implications of tile incumbent's reactions have to be carefully analyzed before determining the optimal response by the incumbent.In this paper, we propose a conceptual framework for understanding differences in the magnitude and timing of incumbents' responses to competitive entries. We consider a model in which a monopolist incumbent firm faces competitive entry. The incumbent firm knows the true quality of the entrant with certainty. Although consumers are aware of the incumbent's product quality through their prior experience, they are initially uncertain of the entrant's product quality. In such a situation, a high-quality entrant has the incentive to signal her true quality through her strategic price choice. However, the uncertainty about the entrant's quality is favorable to the incumbent in the sense that consumers believe with a high probability that the entrant's quality is low. As a result, the strategic incentives facing the incumbent and the entrant oppose each other. While the entrant wants to signal her high quality, the incumbent wants to prevent her from do...


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