The dynamics of marketing in cyberspace

Conventional retailers know that when they move beyond their familiar brick-and-mortar walls and enter the fluid universe of electronic shopping the rules of the marketing game radically change. And they don't like it. The lower search costs of interactive home shopping (IHS) may be attractive to consumers, but most retailers fear that in cyberspace competition will mount as margins plummet. And so as they have moved into electronic retailing, they have invested little in lowering consumer search costs and resisted cooperating with efforts that make it easy for consumers to compare merchandise of competing retailers.

Retailers of differentiated products should adopt a very different approach, say John Lynch, Jr., and Dan Ariely in their new study, "Electronic Shopping for Wine: How Search Costs Affect Consumer Price Sensitivity, Satisfaction with Merchandise, and Retention." Lynch, of Duke University, and Ariely, of MIT, understand retailers' concerns. Lynch explains, "The most fundamental challenges for electronic retailers revolve around the three interrelated themes of fear of price competition, fear of comparison shopping, and perceived disincentives to cooperate with other sellers in lowering the cost of search for information consumers might desire. But devising electronic retailing strategies based on these fears merely opens the door for retailers of differentiated goods to be 'Amazoned' by new, purely electronic rivals."

A new game with new rules

Lynch and Ariely's study can help retailers come up with a more effective electronic strategy. Sellers, says Lynch, are looking at only one piece of the puzzle when they focus on search costs for price information. "Lowering search costs for price can increase price sensitivity. But as in advertising, lowering search costs for quality leads to increased product differentiation and actually reduces price sensitivity. Price sensitivity is only half of the story. Lowered search costs also affect consumer well-being, giving consumers a more pleasant shopping experience and making it easier for people to find differentiated merchandise to match their tastes." The researchers therefore examined two questions: Can the increase in price sensitivity that goes hand in hand with easier access to price comparisons be offset by the decrease in price sensitivity that accompanies easier access to quality comparisons? And, when retailers make easy across-store comparisons and price and quality information readily available to consumers, do they make it easier for consumers to choose products they will like and, in the process, increase customer retention?

Shopping for wine

To answer these questions, the researchers recruited 72 graduate students and staff to participate in a test of an electronic shopping system that sells wines. Two competing electronic wine merchants, Jubilee and Dionysus, sold 60 wines each-20 of which overlapped and 40 of which were unique to each store. Lynch and Ariely then independently varied three different search costs-high or low access to price information, high or low access to quality information, and high or low access to store comparisons-and randomly assigned participants to one of the eight resulting IHS systems. Consumers spent their own money to make their purchases, and the prices of the wines varied over time so that the researchers could measure customers' price sensitivity. In order to identify which wines the participants actually liked, the researchers asked participants to take part in a tasting of ten of the available wines after the shopping portion of the experiment. Finally, to test customer retention, they sent participants an e-mail announcement asking if they would like to subscribe to the same electronic wine-shopping system to make their future wine purchases from their home PCs.

E-retailers will depend on branded variants, private labels, even exclusives with manufacturers.

Lynch and Ariely found that lowering the cost of search for quality information makes consumers less price sensitive-and more than compensates for the increase in price sensitivity that accompanied lowering the cost of search for price information. Lynch comments, "If there are real differences among competing brands, as is true in a category like fine wines, electronic sellers can convey such differences more starkly by providing deeper and more customizable information."

Lowering search costs for store comparisons had different effects: participants became more price sensitive when it came to the products the wine merchants had in common and less price sensitive regarding those products that were unique to each merchant. Lynch elucidates the point using a different product category: "What would happen if JC Penney cooperated with a third party service like, which facilitates cross-store comparisons and lowers search costs for both price and quality? Consumers may become much more price sensitive regarding Levi's jeans, which are sold at multiple outlets, but far less price sensitive regarding Arizona jeans, which are sold only by JC Penney."

The benefits of lowering search costs were clear when the researchers examined the results regarding customer welfare and retention. The lower the search costs-in other words, the more "transparent" the IHS system-the more consumers enjoyed the electronic shopping experience, the more they were satisfied with the products when they finally tasted them, and the more likely they were to opt to continue to use the IHS system for future wine purchases. "These results seem obvious when considered by themselves. But they foretell the future for electronic retailers who lag in providing consumers with the information they want. Laggards will be bypassed in favor of merchants who cooperate in providing deep information and in enabling cross-store comparisons."

Rethinking merchandising mix

These results have important implications for retailers and manufacturers alike. As bricks-and-mortar retailers move into cyberspace, they have to overcome their fears and design transparent sites that offer consumers easy access to price, quality, and store comparison information. But to offset the price sensitivity that transparency brings, retailers may conclude that they can only make money on merchandise that they distribute exclusively. This, says Lynch, will signal a fundamental shift in the merchandising mix: "The national and international power brands that are the bread and butter of bricks-and-mortar retailers will become less and less attractive to retailers in an electronic world. In an electronic arena, retailers will depend on branded variants, private labels, even outright exclusives with manufacturers."

And that means change for manufacturers, too. In a physical world, manufacturers are reluctant to give exclusives because their market share depends on distribution. But Lynch and Ariely found that this principle may not hold in an electronic world. Lynch explains, "In electronic environments that discouraged cross-store comparison shopping, wines that were sold in two stores had twice the average market share of wines sold in only one store. But when cross-store comparison shopping was made easy and consumers could consider wines available at both sites simultaneously, the market share advantage of the more heavily distributed wines was reduced sharply or eliminated. It is well known that similar alternatives steal market share from each other. Easy comparison makes obvious that similarity. In an electronic world, therefore, manufacturers should be more open to selling retailers branded variants and private label merchandise, as well as to partnering with a single powerful retailer to offer outright exclusives."

Conventional retailers, then, have been suffering from some fundamental misperceptions about marketing in cyberspace. They should not be trying to prevent comparisons with their competitors. Instead, they should be looking for ways to provide consumers with better information about product quality and make their sites as transparent as possible. And retailers should couple such Internet strategies with a re-examination of their merchandising mix. They should invest in exclusivity-unless they have a cost advantage that will give them a competitive edge in an environment of heightened price sensitivity for national and international brands. This is not just a suggestion, say Lynch and Ariely. It is a competitive necessity. For if retailers don't take advantage of the new dynamics of shopping in cyberspace, their competitors certainly will.

Katherine Zoe Andrews

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