Executive Summary
Slotting allowances are lump-sum payments by manufacturers to retailers for stocking new products. The economic rationale for slotting allowances is controversial. Several theoretical arguments have been provided for the use of slotting allowances. Proponents’ arguments are based on efficiency considerations; namely, slotting allowances facilitate the efficient allocation of scarce retail shelf space and the equitable allocation of new product failure risk between manufacturers and retailers, and they act both as a signaling device for manufacturers to communicate private information about potential success to the retailer and as a retail competition mitigation device that increases distribution coverage. Conversely, opponents of slotting allowances argue that slotting allowances are anticompetitive; that is, retailers use slotting allowances to reduce retail competition and increase their profits by facilitating retail collusion and to extract manufacturer profits by exercising power, thus adversely affecting smaller manufacturers and reducing consumer access to products. However, empirical research has been virtually nonexistent because of the difficulty in obtaining data about these transactions.
Using data on all new products that were offered to one retailer for a period of six months, the authors empirically investigate support for the alternative rationales for slotting allowances. The analysis indicates that there is more support for the efficiency theories than for the anticompetitive theories. The authors find evidence that slotting allowances (1) efficiently allocate scarce retail shelf space, (2) help balance the risk of new product failure between manufacturers and retailers, (3) help manufacturers signal private information about potential success of new products, and (4) widen retail distribution for manufacturers by mitigating retail competition. They find little support for the anticompetitive rationales in the data. That the authors find support for the efficiency rationales suggests that the Federal Trade Commission was probably correct in being circumspect about banning slotting allowances outright.
This study offers useful insights for manufacturers and retailers. In general, it suggests that both large and small manufacturers should train their sales forces to communicate, credibly and effectively, the success potential of their products to retailers to reduce the need to offer slotting allowances. The results suggest that there is little danger that the retailer will ask for more slotting allowances when it realizes the success potential of the product.
The results show that small manufacturers have greater marginal impact for more favorable evaluations by offering information about test markets and committing to greater advertising (if, indeed, the product is likely to be effective) because the retailer has less experience/knowledge about these vendors than they do about larger manufacturers. Furthermore, small manufacturers will find it particularly effective to provide likely evidence of marketplace success. One approach is to first introduce the product at smaller retailers that have lower profitability thresholds than larger chains. If, indeed, the product becomes successful at these smaller retailers, this can help the manufacturer persuade the larger retailer to accept the product.
Small manufacturers that do not operate on the same scale as large manufacturers often complain that their products do not receive the same attention as larger manufacturers’ products and that they are unable to afford slotting allowances. The results about opportunity costs and retailer participation suggest a possible solution to this problem. Retailers, which consider their shelf-space valuable real estate, need to evaluate product success information provided by small manufacturers and consider offering localized product assortments. This will reduce their opportunity cost thresholds for participation and make the shelf-space allocation more efficient on a store-by-store basis. This approach would be particularly helpful when dealing with smaller manufacturers that typically offer products that cater to more localized tastes and that currently feel shut out of supermarkets because their locally preferred products do well only at few of the chain’s stores and, therefore, do not meet the aggregate profitability threshold across all stores of the chain. Retailers need to consider modifying their systems to be flexible in accepting products on the basis of potential for localized success.
Finally, small manufacturers that are initially seeking a foothold in a market should consider offering the product on an exclusive basis (for an initial period of one to two years) to only one of the larger retail chains in any particular market to mitigate the problems of retailer competition and thus reduce the need to pay slotting allowances.
Biography
K. Sudhir is James L. Frank Associate Professor of Marketing, Private Enterprise, and Management at the Yale School of Management. He was previously on the faculty in the Stern School of Business at New York University. He received his doctoral degree from Cornell University. His research spans a wide range of markets, including automobiles, film, grocery retailing, movies and DVDs, personalization services, banking, and high technology. His research topics of interest include structural models of competition and channels, slotting allowances, personalization services, international diffusion, advertising responsiveness forecasts, and customer lifetime valuation. He received the 2003 Frank Bass Dissertation Paper Award. He was a finalist for the 2001 John Little Best Paper Award in Marketing Science and received an honorable mention for 2001 Best Paper Award in the International Journal of Research in Marketing. He serves on the editorial boards of Journal of Marketing Research and Marketing Science.
Vithala R. Rao is Deane Malott Professor of Management and Professor of Marketing and Quantitative Methods in the Johnson Graduate School of Management at Cornell University. He received his master’s degrees in Mathematical Statistics from the University of Bombay and in Sociology from the University of Michigan. He received his doctoral degree in Applied Economics/Marketing from the Wharton School of the University of Pennsylvania. He has published more than 100 articles on several topics, including conjoint analysis and multidimensional scaling for the analysis of consumer preferences and perceptions, promotions, pricing, market structure, corporate acquisition, and brand equity. His current work includes bundle design and pricing, product design, diffusion of preannounced products, competitive issues of preannouncement strategies, evaluation of offline and online channels, Internet recommendation systems, and linking firms’ branding strategies to their to financial performance. His research has appeared in Journal of Marketing Research, Journal of Marketing, Multivariate Behavioral Research, Journal of Consumer Research, Decision Science, Management Science, Journal of Classification Society, Marketing Letters, Applied Economics, International Journal of Research in Marketing, and Marketing Science. He currently serves on the editorial boards of Marketing Science and Journal of Marketing Research. He received the 2000–2001 Faculty Research Award of the Johnson Graduate School of Management at Cornell University.
J Marketing Research, Volume 43, Number 2, May 2006
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