Big Bazaar recently held one more of its mega sales. What did it do for the brands it sold?

In mathematics, there is a concept called inverse functions. It describes the behaviour of two (or more) linked variables. A change in one makes the other(s) move in the opposite direction, although perhaps not in the same proportion.

I mention this because a study in the US has shown that brands suffer when large discounts of 20 per cent or more are offered by shops. Apparently, the same thing happens when sudden price cuts are made in stores, a phenomenon common in the US.

The same study also found that FMCG products, in general, are likely to suffer greater brand damage than what we in India call consumer durables. But suffer they do.

In other words, the shop gains volume at the expense of the product, which loses some of its sheen. Hence, the inverse relationship.

It can be argued that deep discounts are intended not just to get rid of inventory but also to create brand awareness. That sounds reasonable except that it depends on who is offering the discount — the producer or the retailer.

Depending on this the outcomes can be opposite. Producers need to be aware of this, or if they are, need to guard against it.

Q not P

The economics of this sort of behaviour has been well analysed over — believe it or not — the last 150 years.

One of the two names associated with such competition was Augustine Cournot, who in the mid-19th century first talked about firms that compete on quantity. That was well before large retail chains had developed. More recently, in the 1930s, it was Heinrich von Stackleberg who talked about it.

But what they were talking about was not exactly the same thing because the agencies involved were not the same. They were talking about producers, not sellers; but if you apply their logic to big retail chains, the outcomes remain intact.

For example, if the market leader retailer in India decides that it is going to sell 100,000 units in the next 30 days by offering massive discounts, what should the nearest competitor do? Should it compete or not?

The answer depends on whether it thinks it will gain or lose by following the market leader. Its dilemma arises when it believes it will lose. What should it do then?

Cournot and Stackleberg both showed — with some fine mathematics, I may add — that the best strategy for the follower sometimes would be to choose a quantity that would hurt the leader. In retail terms, this would translate into even higher discounts.

Brand destruction

This is where brands get the short end. In the old days when large retailers were looking to increase revenue and cash flow did not exist, producers would fight it out by varying their prices by changes in their output.

But today for a variety of factors arising out of intensified competition, markets are largely controlled by distributors, not producers.

The problem is that when distributors compete, the producers can get hurt in many ways. And brand damage could be one of them because that one day's spurt in sales makes an upmarket brand available to everyone, thereby making it lose its premium value.

Think about it: What if, thanks to a sale, the junior-most employee in the firm turned up in the office driving the same car as the CEO?

(T.C.A. Srinivasa-Raghavan is Senior Associate Editor, Business Line)

(This article was published on May 9, 2012)
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