Market Entry Theory and PracticePresentation to

NSW Natural Gas: Full Retail Contestability

Charlie Nelson

foreseechange pty ltd

www.foreseechange.com

2

Topics

• Possible incumbent advantages• Telecommunications case study• Gas market growth• How many competitors can the industry support?• Predicting market shares• More on price• Benefit segmentation• Brand differentiation• Other marketing strategies• Conclusions

3

Possible Incumbent Advantages

• Technological leadership– Experience curve effects or R&D success– Less relevant when entrants come from overseas

• Pre-emption of scarce assets– Raw materials, distribution– Compass complained that they were not given adequate

airport terminal access

• Switching costs and buyer choice under uncertainty– Late entrants have to invest more to overcome costs buyers

see when switching or to overcome product performance uncertainty amongst risk averse buyers

Case Study: Telecommunications

5

Stages in ContestabilityTelecommunications Case Study

Disguised Data

0

10

20

30

40

50

60

70

80

90

100

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20

Time

% M

arke

t S

har

e

Incumbent First New Entrant Second Third

Monopoly Duopoly Open Competition

6

Issues Suggested by Case Study

• Duopoly– What market share will be gained by the new entrant?

– What factors influence this?

– What period of time will it take to gain that share?

• Full contestability– What shares will new entrants achieve?

– Will the original incumbent or the second entrant be hurt most?

– How many competitors can the market support?

7

Telecommunications Duopoly• Telstra had a large segment of dissatisfied customers

who welcomed the opportunity to switch• Optus had a cost advantage and could charge up to 10%

less– Telstra attempted to blunt this with pricing plans– Which is cheaper? It depends!

• Inertia was high – companies and households wanted time to evaluate the new entrant

• Optus brought on pre-selection too early (asked customers to make a commitment) and inertia counted against them

8

Open Competition in Telecommunications

• 15 competitors initially, now down to 5– Suggestions that One.Tel were selling services at a loss

plus they strayed from their core area of expertise

– Further consolidation likely

• Optus up for sale• Telstra’s share price plunged on news that revenue

and profit forecasts were too optimistic– Hit by competitive pressures plus a market slowdown

influenced by the economy

Gas Market Growth

10

Gas Market Growth

• In telecommunications, Telstra’s share price has plunged as a result of a downgrade in revenue and profit forecast– Attributed to the economic slowdown and competitive

pressure– One.Tel has collapsed

• A quickly growing market will tend to offset loss of share to competitors and may lessen the prospects of a price war

• So, what are the growth prospects for the gas market?

11

ABARE’s 1999 ForecastAverage Annual Growth Rate 2000 to 2015

• Australia– Natural gas 4.0%– Electricity 1.5%

• NSW– Natural gas 3.3%– Electricity 1.3%

• These are averages and economic growth volatility suggests that growth will be lower in some years, possibly close to zero

12

Growth Opportunities and Threats

• Opportunities– ABARE’s residential forecast is based on consumption per person,

but households are growing much faster than people

– More switching from electricity to gas than ABARE allowed for, due to lower carbon emissions (especially in Victoria)

– Switching from electricity to gas to secure better quality, more reliable electricity (microturbines, fuel cells)

• Threats– Switching from gas to solar hot water

– Global warming (less space heating)

13

Lone Households Growing Rapidly

0

500

1000

1500

2000

2500

3000

3500

4000

4500

5000

'000

1986 1991 1996

Group

Lone

Family

14

No Growth in Traditional Families

0

200

400

600

800

1000

1200

1400

1600

1800

2000

'000

1988 1991 1994 1997

couple only

couple + kids

single parent

15

Highlights of ABS Household Projections

• Between 1996 and 2021, the population will grow by 24% but the number of households will grow by between 38% and 46%

• Average household size to decline from 2.6 to between 2.2 and 2.3

• Couple families without children to exceed couple families with children by 2020

How Many Competitors can the Industry Support?

17

Some Generalizations

• Based on Kalyanaram, Robinson, and Urban (1995) “Order of market entry: established empirical generalizations, emerging empirical generalization, and future research” Marketing Science Vol 14, No. 3, Part 2.

• For mature consumer and industrial goods, there is a negative relationship between market entry and market share

• In mature consumer and industrial goods markets, early entrant market share advantages slowly decline over time

18

Other Industries in Australia

• Telecommunications– Full deregulation in 1997 led to 15 competitors but consolidation and exits

will probably leave 3– The 5th, One.Tel, just went under– The 2nd, Optus, is up for sale

• Passenger Airlines– Several collapses (Compass twice, Impulse)– Two competitors on most routes, Virgin makes three on larger routes

• Banking– The “four pillars” policy is artificially keeping four big competitors– Without that policy, there would be two big competitors plus niche

competitors

19

Likely Outcome in Energy

• 2 or perhaps 3 viable full service competitors

• Plus possibly some niche competitors• It is interesting to note the potential trend

back to government ownership in Telecommunications and airlines – but it is the Singapore government buying, not the Australian government

Predicting Market SharesThe Influence of Brand and Other

AttributesAn example of conjoint analysis

21

Breakfast Cereal Case Study

• This is a simplified example and real world studies are not in the public domain

• 90 marketing students at Sydney University participated in a conjoint analysis study as an educational exercise that I conducted

• In discussions, we identified the important attributes

• Then we developed an experimental plan to vary the attributes by brand

• And developed a market simulation tool

22

Breakfast Cereal Attributes

• Brand– Kellogg, Uncle Tobys, Sanitarium, No Frills

• Price– -30%, -10%, +10%, +30%

• Sugar content– Low, high

• Fibre content– Low, high

• Fat content– Low, high

• Toys in pack (suggested by the boys)– Yes, no

23

Experimental Design(cards were ranked by respondents)

Card Brand Sugar Fibre Fat Toys Price1 Kellogg High High High No -10%

2 Uncle Tobys

Low Low High No +10%

3 Sanitarium

low High High No -30%

4 No Frills high low high no +30%

5 Kellogg low high high yes +10%

15 Sanitarium

high low low yes +10%

16 No Frills low high low yes -10%

24

Relative Influence of Attributes

25

Scenario 1 (all brands equal)

No Frills Uncle Tobys Kellogg Sanitarium

Sugar High High High High

Fibre Low Low Low Low

Fat High High High High

Toys No No No No

Price 0% 0% 0% 0%

Preference Share

4% 25% 62% 9%

26

Scenario 2 (realistic prices)

No Frills Uncle Tobys Kellogg Sanitarium

Sugar High High High High

Fibre Low Low Low Low

Fat High High High High

Toys No No No No

Price -15% -5% +5% -5%

Preference Share

8% 35% 49% 8%

27

Scenario 3 (Sanitarium Low Sugar)

No Frills Uncle Tobys Kellogg Sanitarium

Sugar High High High Low

Fibre Low Low Low Low

Fat High High High High

Toys No No No No

Price -15% -5% +5% -5%

Preference Share

3% 24% 44% 29%

28

Cereal Case Study Conclusions

• Despite the artificial simplicity and the non-random sample, the market share predictions are remarkably accurate

• The relative importance of brand, price, and other attributes have been quantified

• Conjoint analysis and choice modelling (a similar technique that focuses more on discrete choice rather than preference) have been applied with success in new product or new market entrant studies in industries such as telecommunications, airlines and finance

More on Price

30

Pricing Considerations

• Price is the only marketing variable that directly determines revenue and, because it affects quantity sold, affects cost as well

• In a competitive environment, it is important to keep prices at levels that ensure industry profitability

• Prices influence market growth as well as market shares

• Price is seen by some consumers as a quality signal

31

Price Discrimination• Price discrimination occurs whenever there are price differences for

the same product or service sold by a single seller that are not justified by cost differences

• If different consumers have different price sensitivity then price discrimination can boost profits

– Difficult to identify price sensitivity of individual customers

• Price discrimination exists despite identification and legal problems– Student and pensioner discounts– Airfare discounts – differentiation on the “restrictions” attribute

• Opportunities in energy– “green energy”– Peak/off peak– Quality differentiation

32

Retail Price Sensitivity

• Several independent research studies confirm that about – 20% of consumers are very price sensitive– 30% trade off price and other attributes such as convenience

and quality– 50% are more concerned about convenience, quality, service,

or other factors and price is of relatively low importance

• This may vary by industry– eg higher in air travel because there is a high market size

elasticity as well as market share elasticity

• It certainly varies over time and by demographics

33

Retail Price Sensitivity Variation

Low

Medium

High

Price Sensitivity Segments

Source: foreseechange

Quarter

%

0

20

40

60

80

100

Sep 97Dec 97

Mar 98Jun 98

Sep 98Dec 98

Mar 99Jun 99

Sep 99Dec 99

Mar 00Jun 00

Sep 00Dec 00

PriceSensitivity

34

Determining Market Share Price Elasticity

• Analysis of time series data if available

• Analogy from other countries or industries

• Simulated choice modelling– Where it has been possible to compare with

time series analysis, elasticity estimates are quite similar

35

Benefit Segmentation

• Consumers differ on the relative importance attached to attributes such as price, quality, and customer service

• With knowledge of benefit segmentation, it is possible to differentiate the product so as to maximise profit (not necessarily market share)

• Benefit segments can be identified in market research through conjoint analysis or cluster analysis of an attitudinal battery

36

Brand Differentiation

• Brands are still very important to consumers, although less important than 25 years ago

• Brand differentiation is important, especially in defending market share

• Australian ownership and environmental credentials are two potentially powerful differentiators

37

Brand Choice in SupermarketMost Important Reason for Brand Choice

Source: ACNielsen

0 5 10 15 20 25 30 35

Other

Environmentally Friendly

Where made

Price

Brand usually buy

Quality

%

97

99

38

Brand Choice in SupermarketFactors Important - Multiples Allowed

Source: ACNielsen 1999

0% 10% 20% 30% 40% 50% 60%

Other reason

Environmentally friendly

Price

Quality

Where brand made

Packaging

Recently advertised

Brand usually buy

%

Dick Smithssegment

Greensegment

Other Marketing Strategies

40

Bundling• Bundling involves selling products in packages – eg a travel package

includes transport, accommodation, meals, entertainment, etc• If properly developed and implemented, a price bundling strategy can

enhance customer’s perceptions of value, provide competitive advantage, lead to cost economies, and effect a profitable pricing strategy– In insurance, some people want to buy a portfolio of insurance products

from one company, others want the best deal on each type of insurance• If improperly done, it can lead to lost sales, reduced profits, and lower

customer satisfaction– Bundling home loans at a discount with energy offends the majority of

households who do not have a home loan and don’t qualify for the discount

• The key is to understand customer segmentation

41

Loyalty Schemes

• Sometimes called “disloyalty” schemes because most consumers belong to more than one and choose between them for each transaction

• A good example of the power of loyalty schemes is Coles and Woolworths– Coles has fly buys and share holder discounts, Woolworths have neither– Yet Woolworths market share and share price is higher than Coles

• Moral: get customer service right– If you don’t, a loyalty scheme won’t help– If you do, you don’t need a loyalty scheme

• Few, if any, loyalty schemes are being effectively used for 1 to 1 marketing

42

Conclusions

• The market can probably only support 2 or 3 full service competitors

• Incumbents can have several advantages over later entrants• Pay attention to growing the market as well as market

share• Price sensitive customers are easily won and easily lost• Need to be able to withstand a price war at some stage –

possibly during a market slowdown• Understanding market dynamics and segmentation is vital

to development of a profitable portfolio and, ultimately, survival

43

For more information ...

• Market Defence and Entry– Defending market share against a new entrant by Roberts, Nelson, and

Morrison, in New Directions in Corporate Strategy by Twite and O’Keefe, AGSM

• Market Modelling– Marketing Models by Lilien, Kotler, amd Moorthy, Prentice-Hall

• Pricing– Pricing: Making Profitable Decisions by Kent B. Monroe, McGraw-Hill

• Conjoint Analysis and Choice Modelling– www.futuretoolkit.com/conjoint.htm