The Effect of Price Promotions on Variability in Product Category Sales

Author(s): Jagmohan S. Raju

Source: Marketing Science, Vol. 11, No. 3 (Summer, 1992), pp. 207-220
Published by: INFORMS
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MARKETING SCIENCE
Vol. 11, No. 3, Summer 1992
Printed in U.S.A.

THE EFFECT OF PRICE PROMOTIONS ON

VARIABILITY IN PRODUCT CATEGORY SALES
JAGMOHAN S. RAJU
University of California, Los Angeles
Our objective in this research is to relate variability in product category sales to promotional
activity in the product category, and other category specific characteristics.The findings may be
relevant from retailers' perspective as retailers' revenues are more closely related to the sales of
the product category as opposed to the sales of any particular brand. We analyze data on about
2,000 brands from 25 differentSAMI categories, obtained with the cooperation of a major grocery
chain. Our data suggest that an increase in the magnitude of discounts increases the variability
in category sales but an increase in the frequency of discounts has an opposite effect. Furthermore,
categories which are bulky, or categories where the degree of competitiveness is high, exhibit
lower variability in sales.
(Price Discounts; Product Category Sales; Retailing; Sales Promotions)

1. Introduction
Past research on sales promotions has primarily examined the effect of promotions at
the brand level. This emphasis is extremely useful from a brand manager's perspective
whose objective is to develop promotional programswhich improve brand performance.
However, promotions primarily increase one brand's sales at the expense of the other
brands in the same product category. Hence, it is possible that a promotional program
which may be very desirable from a brand manager's perspective, may in fact lead to a
reduction in dollar sales of the categoryif much of the merchandisemoves at the promoted
price. Our focus in this paper is to understand the effect of promotions at the product
category level. This focus is relevant from a retailer's perspective because a retailer's
revenues are more closely linked to overall categorysales than to the sales of any particular
brand. Schultz (1990) states in a recent issue of Marketing News that many of the pro-
motional programs which lead to brand switching are of little use to the retailer. He
argues that the retailers of the future are likely to accept only those promotions which
lead to an increase in category sales. This may be achieved by designing promotional
programs which increase category sales, and/or by directing promotional efforts towards
categories which are more responsive to promotions.
Our researchexplains variabilityin product category sales as a function of promotional
activity in a product category, and other category specific characteristics. We hope that
our research will be a starting point for answering questions such as
1. Do infrequently offered deep discounts lead to a higher variability in category sales
than frequently offered moderate levels of discounts?
207
0732-2399/92/1103/0207$01.25
Copyright ? 1992, The Institute of Management Sciences/Operations Research Society of America
208 JAGMOHAN S. RAJU

2. Does manufacturer level competition in a product category enhance or reduce

variability in category sales?
3. Do expensive categories such as coffee exhibit lower variability in sales than the
categories which are relatively inexpensive?
4. Does bulkiness affect the extent to which category sales can vary?
It is important to point out that we relate short term variability in category sales to
short term price variation and other category specific characteristics.A short-term change
in category sales does not necessarily imply a gain in sales because a short-term increase
can be obtained at the expense of future sales.' The increase could also be at the expense
of other product categories, or may occur due to consumers switching from one store to
another (Kumar and Leone 1988). Our research does not differentiate among these
effects. However, promotions (short-term changes in price) can lead to a long-term in-
crease in category sales only if there is a short-term increase to begin with. In other words,
a short-term increase is necessary but not sufficient for a long-term increase to occur.2
Hence, examining short-termeffectsis a useful firststep. Furthermore,the shift in emphasis
from brand to category level is relevant in its own right from the point of view of a
retailer because even a long-term increase in brand sales does not guarantee an increase
in category sales, even in the short run.
Though much of recent empirical research has examined the effect of promotions on
brand sales in a particularproduct category (e.g., coffee), some recent research explains
why the effect of promotions varies across product categories.For example, Bolton (1989)
and Litvack, Calantone, and Warshaw ( 1985) investigate factors which account for the
differences in brand price elasticities across categories. However brand price elasticities
may be very high in a product category (e.g., coffee, gasoline) and yet category sales may
not change much if promotions primarily lead to brand switching (Gupta 1988). More
recently, Fader and Lodish (1990) examine the relationship between category charac-
teristics and the use of promotional devices, e.g., coupon offers, feature activity, and
price cuts. However, their researchdoes not addresshow promotional activity in a product
category affects category sales.
Our exploratory analysis relates variability in product category sales to promotional
activity in the product category and other category specific characteristics. We draw
heavily upon the resultsfrom previous analytical researchon the effect of price promotions
on optimal stockpiling and consumption behavior (e.g., Magirou 1982, 1987; Golabi
1985; Helsen and Schmittlein 1989; Assuncao and Meyer 1990). We analyze data on
about 2,000 UPC's belonging to 25 different SAMI categories. The data consist of prices
and sales monitored weekly for a period of about 6 months in a large grocery store, which
is a part of a major national chain. Our data suggest that an increase in the magnitude
of discounts increases the variability in category sales but an increase in the frequency of
discounts has an opposite effect. Categories which are bulky, or categories where the
degree of competitiveness is high, exhibit significantly lower variability in sales. We close
with a summary of findings, their managerialimplications, the limitations of this research,
and directions for future research.

2. Determinants of Category Sales Variability

The sales of most frequently purchased consumer packaged goods would be relatively
stable, especially at the aggregatelevel, but for the effects of short-termpromotions (Peck-
ham 1973, Goodwin 1972). Category characteristics, which are not directly related to

'This is often the case when one examines the effect of promotions on brand sales.
2This assumes that the effect of price promotions on sales is immediate, as opposed to advertising which
may have lagged effects (e.g. Clarke 1976).
EFFECT OF PRICE PROMOTIONS ON PRODUCT CATEGORY SALES 209

promotional activity, may also affect variabilityin categorysales. Consequently, we classify

the determinants of variabilityin category sales into two groups. The firstgroup represents
promotional activity in the product category. The second group consists of product char-
acteristics not directly related to promotional activity.

2.1. Promotional Activity

The two facets of promotional activity included in our study are (1) the magnitude
of discounts, and (2) the frequency of discounts.

Magnitude of discounts. A deep discount may induce some consumers who are loyal
to the competing brands to switch to the promoted brand. It may also induce some
consumers, who would have otherwise found the product category too expensive, to
make a purchase in the product category. Finally, among the loyal consumers, i.e., those
who would have bought the brand even in the absence of a discount, a deep discount
may induce stockpiling or an increase in consumption. Deep discounts may induce
stockpiling or an increase in consumption among the former two groups of consumers
also, but the effect on those consumers is likely to be smaller because they need an extra
monetary incentive to buy even the first unit of the promoted brand. Overall, larger
discounts are likely to lead to an increase in variabilityin category sales. This is consistent
with the analytical results in Magirou (1982), Golabi (1985), Helsen and Schmittlein
(1989), and Assuncao and Meyer (1990).

Frequency of discounts. If a brand is promoted very infrequently, consumers are

likely to use these opportunities to stock-up for future consumption. On the other hand,
if a brand is on promotion most of the time, consumers are not likely to benefit much
by stocking up on any given promotional occasion (Krishna, Currim, and Shoemaker
1990). Decrease in stockpiling as promotional frequency increases has been shown using
simulations in Helsen and Schmittlein (1989), and Assuncao and Meyer (1990).
Winer (1986) and Lattin and Bucklin (1989) conclude that more frequent discounts
may lower the reference price of the promoted brand, which in turn may negate the effect
of promotions. Consequently, if most brands in a product category are promoted very
often, the consumer is not likely to indulge in stockpiling behavior for any of the brands.
Hence, category sales are not likely to be affected as much. Therefore, product categories
in which the brands are promoted very often may exhibit lower variability.
It is important to point out that when no brand is being promoted, there should be
very little variability in category sales. So in a technical sense, the relationship between
frequency and variability should have an inverted U-shape. However, Assuncao and
Meyer (1990) show that the declining portion of the inverted U-curve starts at very low
frequencies. As we shall see later, our data consist of highly promoted categories (see
Table 1). Hence, an assumption of a declining relationship seems pragmatic in our
context.

2.2. Category Characteristics

Two of the three category characteristics examined in this research, namely, expen-
siveness and bulkiness, affect consumers' decision to buy more of the product when it is
on discount.3 Competitive intensity is the third category characteristic included in this
study that may affect variability in category sales.

3 Note that promotions may merely lead to stocking up of the product for future use, or higher consumption.
We do not distinguish between these two effects.
210 JAGMOHAN S. RAJU

Expensiveness. The price paid by a buyer when making a purchase in the product
category can affect variability in category sales for the following reasons.
1. For a consumer to buy two jars of instant coffee instead of one in response to a
price cut, s/he has to spend an extra $5.00. This may lead to a grocery bill beyond the
grocery budget for the week. On the other hand, the same consumer may have little
hesitation in buying an additional can of soup when it is on discount because the additional
outlay is only 60 cents. Hence, other things being equal, expensive product categories
are likely to exhibit smaller variability in sales. It can be argued that instead of buying
two jars of coffee, a consumer may buy a little extra quantity of coffee by switching to a
slightly larger size. However, the larger size may not be on discount concurrently. Fur-
thermore consumers often exhibit loyalty to a particular package size (Guadagni and
Little 1983).
2. The same discount magnitude may have a lower impact on choice behavior if some
consumers compare per cent discounts (as opposed to the absolute value of the discount)
across categories before deciding on which product to buy for future consumption.
3. Higher income shoppers may constitute a greater fraction of the consumer popu-
lation of expensive product categories. If these shoppers are less price sensitive, then the
effect of promotions on category sales for expensive products may not be as pronounced.
Overall, it seems that expensive product categoriesare likely to exhibit lower variability.
Bulkiness. For a consumer to buy more of the product, s/he must have the space at
home to store the additional product until it is eventually consumed. More than a few
units of a bulky product, such as liquid bleach, may also not fit into the vehicle which
is used to transport purchases from the grocery store to the place of residence. Hence,
bulkier products are likely to exhibit smaller variability in category sales. Magirou ( 1982,
1987) analytically models the impact of storage capacity constraints on stockpiling be-
havior. The effect of bulkiness on stockpiling behavior is empirically examined in Litvack
et al. (1985), and Blattberg et al. (1981). These studies also conclude that bulkiness
lowers the incentive to stockpile.
Another category characteristic which may affect variability in category sales is per-
ishability (Litvack et al. 1985). Perishability is important if product categories have
different shelf lives. As our sample consists entirely of packaged goods which have large
shelf lives, we did not include perishability in our analysis. However, perishability can
be important if one were comparing categories such as milk and meat with cereal and
ketchup.
Competitive intensity. Higher competitive intensity in a product category may affect
the variability in category sales for a variety of reasons, some of which are discussed next.
1. A category is more competitive if no brand (or a set of brands) is dominant because
of its unique positioning. If a product category is very competitive, it implies that each
brand has a number of close substitutes available within the product category. Due to
the presence of a large number of very similar brands, brand switching effects will dom-
inate. Also, when the category consists of a large number of similar brands, each brand
is likely to have fewer loyal consumers who are willing to stockpile for future consumption.
Consequently, we may observe lower variability in category sales in such product cate-
gories.
2. The competitiveness in a product category can have an effect on the pattern of
promotions in a product category. For example, in more competitive categories, brands
may time/sequence their promotions more to counter the effect of competitors' pro-
motional activities than worry about increasing the category sales. It is shown in previous
analytical research that increasing category sales is useful only from the point of view of
dominant brands (Bayus, Lee and Rao 1989).
EFFECT OF PRICE PROMOTIONS ON PRODUCT CATEGORY SALES 211

3. Model and Methodology

We considered a multiplicative model (1) and a linear model (2) to link variability
in category sales to promotional activity and other category characteristics.
VAR = a X PRICEI' X BULK02 X COMPB3 X MAG 4 X FREQ'5 X u, (1)
VAR = a + 13PRICE + /2BULK + 33COMP+ /4MAG + P5FREQ + u, (2)
where,
VAR = Variability in Category Sales.
PRICE = Expensiveness of the Product Category.
BULK = Bulkiness of the Product Category.
COMP = Competitive Intensity in the Product Category.
MAG = Magnitude of Discounts.
FREQ = Frequency of Discounts.
u= Error.
a, 31, 32, /3, /4, 5- = Parameters to be estimated.

We used the Box-Cox approach to compare the multiplicative model with the linear
model (Box and Cox 1964, 1982). The Box-Cox approachcan be explained in the context
of the following simple example. Suppose we want to find out the functional form which
best relates y to the two predictors xl and x2. Box-Cox approach recommends estimating
the model,

- a += + b2 ,

with X as one of the parameters. Note that X = 1 corresponds to a linear model. Using
L'Hospital's rule, X = 0 corresponds to the multiplicative model. In general, one uses
a maximum-likelihood estimation procedure and compares the log-likelihood function
for X = 0 with X = 1 to determine whether a linear model fits better than a multiplica-
tive model.
The values of the log-likelihood function corresponding to X = 1 and X = 0 were found
to be equal to 46.9 and 74.2, respectively. Therefore, we selected the multiplicative model
for further investigation as it fits better than the linear model (p = 0.01).4
The multiplicative model may have turned out to be superior to the linear model for
the following reason. We expect the category sales of most frequently purchased packaged
goods to remain constant from week to week but for the effect of promotional activity
in the category. If no discounts are offered in the category (i.e., MAG = 0, or FREQ
= 0), we expect category sales to remain constant (i.e., VAR = 0). The multiplicative
model is consistent with this but a linear additive model is not.
3.1. Description of Data
The data used in our exploratory analysis were obtained with the cooperation of a
major grocery store chain.5 Prices and weekly sales of about 2,000 UPC's belonging to
27 differentSAMI categorieswere recordedfor a period of 25 weeks. Data on manufacturer
and/or retailer coupons were not available. Data on whether the product was featured

4 The maximum log-likelihood corresponding to X = -0.34 was 76.2.

Statistically, the model corresponding
to X = -0.34 provides a better fit than the multiplicative model. The intuitive appeal of the multiplicative
model in this setting overrides the consideration that optimal value of X was not equal to zero.
5 The data are from a major store with an area of about 35-40,000
square feet, and total weekly sales of
about $200,000.
212 JAGMOHAN S. RAJU

or on display were also collected, but the grocery chain did not permit us to use feature
and display data. However, feature and display activity are very highly correlated with
price discounts (e.g. Guadagni and Little 1983, Fader and Lodish 1990). Hence, our
inability to use data on feature and display activity does not seem very damaging to the
validity of the study.
The data on prices and sales obtained from store records were combined with data on
bulkiness of each of the products. To this end, we manually measured the physical di-
mensions of each one of the UPC's included in the study. The physical dimensions were
used to compute the volume. However, while going through this process, we found it
very difficultto get accurateestimates of volume for the SAMI code representingshampoos
and candy because shampoo bottles and candy bars came in different shapes and sizes.
Hence, we did not include these SAMI categories in our study. So data from only 25
different SAMI categories were used.

3.2. Variable Operationalization

Before describing how variables in equation (1) are operationalized using the data set
described above, we discuss a few basic issues pertaining to the definition of a product
category, and also the procedure used to identify when a brand is on discount.

Definition of product category. The analysis was conducted at the product category
level, i.e., each product category constitutes one observation. Defining what constitutes
a product category is not an easy task, and has therefore been the focus of some very
interestingresearchin marketing(e.g. Day, Shocker,and Srivastava1979;Urban, Johnson,
and Hauser 1984; Grover and Srinivasan 1987). The above mentioned research rec-
ommends that, in order to define product categories precisely, one needs consumer level
data for each product category. These data are not available to us. Hence, as in Raju,
Srinivasan, and Lal (1990), we used the following judgement based approach to define
product categories.
Typically, retailers treat each SAMI Code as one product category. However, the def-
inition of a SAMI categoryis often too broad. For example, the SAMI code corresponding
to cooking oils includes vegetable oil, corn oil, as well as olive oil. Hence, we divided
each SAMI category into more homogeneous product categories whenever necessary.
The splitting of SAMI categories into possibly smaller but more homogeneous product
categories was done independently by four experts. The results of the four experts were
compared and discussed by the group till consensus was reached. Consequently, we ob-
tained 63 different product categories (referredto as modified SAMI categories, or MSA-
MI's). To maintain confidentiality, we are unable to disclose the exact description of the
product categories used in the study.6

Identifying a brand on discount. We examined the price history of a brand over the
25-week period. We identified the highest price and labeled it as the regular price. Any
price which was lower than the highest price by more than k cents was treated as an
incidence of price discount, where k = 5 cents. It can be argued that in some instances
a price lower than the regular price by more than 5 cents could be an instance where the
regular price itself was lower. So we repeated the analysis for k = 5, 10, 15 cents, and
also for k = 1%,2%, and 2.5% of the highest price. The results were not affected by the

6 On the Fader and Lodish (1990) classification scheme (see their Table 2), 25%of our categories correspond
to Cluster 1, 50% to Cluster 2, and the remaining to Cluster 3. The interested reader may refer to Raju (1987)
for more information on the product categories.
EFFECT OF PRICE PROMOTIONS ON PRODUCT CATEGORY SALES 213

choice of k in any significant manner.7 For the rest of the paper we report the results for
k = 5 cents.8

3.2.1. Measures

Variability in Category Sales (VAR). First, we defined the base sales in the category
(Qbase), to be equal to the average of the three lowest sales observed during the 25-week
period.9 Next, for every week t, we computed the difference between the category sales
in that week (Q,) and the base sales (Qbase) as a fraction of the base sales.'0 The Variability
in Category Sales (VAR) was set equal to the average of the deviations from the base
sales over the 25-week period. More specifically,

1 25 Qbase
VAR = (3)
base
25 t=l base

A part of the variability in sales can be due to seasonality in the purchase patterns.
The data are from September to February. Seasonal changes in demand during this
period may occur due to holidays (e.g., Thanksgiving and Christmas) and/or changes
in weather conditions.
1. Holidays such as Christmasand Thanksgivinggenerallylead to an increase in overall
purchase activity in the store. Hence, we normalized the sales of each category by the
total sales of all 63 product categories (a surrogate for total store sales). Variability was
computed using the normalized sales.
2. The effect of weather changes on category sales was not formally accounted for.
Our focus is on investigating how promotional activity and other category characteristics
relate to variability in category sales. Though changes in weather conditions may affect
category sales, it is not clear if these changes have any systematic effect on the nature of
the relationshipunder investigation. For example, an increasein the frequencyof discounts
should lower stockpiling in the categoryjust as much in Septemberas it would in February.
Therefore, by not accounting for the effect weather changes on category sales, at best we
increase the error component of the model.T"

Magnitude of discounts (MAG). The magnitude of discount offeredby a brand (when

it is on discount) was measured as the difference between its regular price (highest price
over the 25-week period) and its price in that week. By averaging over the number of
discount occasions, we obtained a measure of the magnitude of discounts for the brand.
The overall category measure was obtained by computing a market share weighted average
of the discounts offered by the brands in the product category.12

7It is possible that no major changes in regularprice occurred because the data were collected over a relatively
short duration of 6 months.
8 We also modified our
procedure by defining the regular price to be the highest price in the preceding 8
weeks, except when the highest price in the preceding 8 weeks was substantially lower than the highest price
over the 25-week period. The latter adjustment was needed to properly account for brands which offer more
than one level of discount, i.e., Pepsi selling at a regularprice of $2.29, offering a moderate discount of 30-40
cents in some weeks, and also offering a deep discount of 70-80 cents in other weeks. The qualitative nature
of the results remained unchanged.
9We used alternate measures in which Qbasewas set equal to the lowest sales observed during the 25 weeks,
and also the average of the two lowest sales observed during the 25 weeks. The results were qualitatively similar.
'OFor each week t, we computed (Q, - Qbase)/Qbase.
1 Also, the data are from a grocery store in Southern California, a region where weather changes over these
months are minimal.
12
Unweighted analysis yielded similar results.
214 JAGMOHAN S. RAJU

TABLE 1
Summary Statistics

Mean Std. Dev.

Variability in Category Sales [VAR] 0.53 0.4

Magnitude of Discounts [MAG] (dollars) 0.13 0.1
Frequency of Discounts [FREQ] (weeks) 10.40 3.0
Expensiveness [PRICE] (dollars) 2.24 1.5
Bulkiness [BULK] (litres) 1.80 2.5
Competitive Intensity [COMP] 0.16 0.1

Frequency of discounts (FREQ). We computed the number of weeks that each brand
was on discount. The category level measure was obtained by computing the market
share weighted average of the brand promotional frequencies.13

Expensiveness (PRICE). We first computed the regularprice (highest price over the
25-week period) of each brand. The category level measure was obtained by computing
the market share weighted average of the regularprices of various brands in the category.

Bulkiness (BULK). The volume of each brand was obtained from the physical di-
mensions which were measured manually. The bulkiness of the product category was set
equal to the market share weighted average of the brand volumes. It can be argued that
a measure of bulkiness should also include weight. We did not take this aspect into
account, and this may be a potential limitation of our study.

Competitive intensity (COMP). Ideally, we would have liked to measure competition

by examining the degree of similarity among brands in the product category so that
product categoriesconsisting of a few unique brandsare classifiedas being less competitive
than the ones which have a large number of similar brands. This required consumer
level data, which are not available to us. Hence, we used measures of competition which
are based on (a) the market share pattern, and (b) the number of brands in a product
category. This approach is commonly used in the literature in industrial organization
(e.g., Waterson 1984). For example, a three-brand market with all brands having equal
market share is considered to be more competitive than a two-brand market with equal
shares. A two-brand market with equal shares is considered to be more competitive than
a two-brand market in which one brand has 90%share. We used three different measures:
the Herfindahl Index (Adelman 1969), the Rosenbluth-Hall-Tideman Index (Waterson
1984), and an entropy-based measure (Waterson 1984). These three measures assign
different relative weights to the two dimensions of competitiveness stated earlier. Each
of these measures is discussed in detail in Appendix 1. The results were not affected by
the measure used. Hence, only the results for the Herfindahl Index are reported. The
value of the Herfindahl Index decreases as the degree of competition in the product
category increases.
The summary statistics are reported in Table 1.

13If a brand is on discount for more than five or six weeks in a row, the consumers may not perceive it to
be on discount. Hence, discount durations longer than six weeks were treated as durations of six weeks. Results
obtained with/without truncating the discount duration using this procedure were similar.
EFFECT OF PRICE PROMOTIONS ON PRODUCT CATEGORY SALES 215

TABLE 2
Parameter Estimates

(1) (2) (3)

OLS Jackknife OLS (Restricted)

Est. t Est. t Est. t

Intercept 2.21 1.98 2.35 2.12 0.65 0.69

Magnitude of Discounts MAG 0.20 1.67 0.22 1.73 -0.001 -0.01
Frequency of Discounts FREQ -0.82 -2.53 -0.87 -2.59 -0.644 -1.96
Expensiveness PRICE -0.06 -0.43 -0.07 -0.52
Bulkiness BULK -0.25 -3.75 -0.25 -4.67
Competitive Intensity COMP 0.28 3.24 0.30 2.92
R2 0.41 0.11

4. Results

We estimated (1) using the ordinary least squares (OLS) procedure. The R2 of the
estimated log-log model was equal to 0.41.14 As this is a cross-sectional estimation, the
error term may be heteroscedastic (Bolton 1989). However, no significant heterosce-
dasticity was detected (Harvey test, and BPG Test). The Goodness of Fit Test indicated
nonnormality in the error term (x2 = 8.6, 2 d.f). Therefore, the t-statistics obtained
using OLS may not be valid. Hence, we used the jackknife approach to obtain estimates
of standard errors (Crask and Perrault 1977). The parameter estimates from the two
procedures, and their respective t-statistics, are reported in Columns ( 1) and (2) in Table
2. As the jackknife t-statisticsare comparableto the ones obtained using OLS, we conclude
that the qualitative nature of the results is not affected by the nonnormality of the error
term.
Including the three category characteristics,namely expensiveness (PRICE), bulkiness
(BULK), and competitive intensity (COMP), improved the fit significantly(see Columns
(1) and (3) in Table 2). The F-statistic comparing the full model with all five variables
with the restricted model consisting of only magnitude of discounts (MAG), and the
frequency of discounts (FREQ) is significant (F3,55 = 9.37, p = 0.01). Furthermore,
without the category characteristics, the parameter estimate for magnitude of discounts
(MAG) was not significant. However, when the category characteristics were included,
the effect of magnitude of discounts (MAG) became significant.

Model validation. We estimated the log-log model on 42 observations( of the sample)

drawn randomly from the 63 available. We used the estimated parametersto predict the
variability in category sales (VAR) in the hold-out sample, and computed the correlation
between the actual values in the hold-out sample and the predicted values. This process
was repeated 100 times. The average correlation for the 100 samples was 0.53 with a
standard deviation of 0.17. Note that this correlation is for the actual values of the
dependent variable and not its log transformation. We also computed the squared dif-
ferences between the predicted value and the actual value for each observation in the
validation sample and averaged over all 100 samples. The mean prediction error was
equal to 17%of the value being predicted. Overall, the validation results are quite en-
couraging.

14 31% of the variation in variability in category sales is explained by the model.

216 JAGMOHAN S. RAJU

Parameter estimates and their implications. Our data suggest that product categories
in which the magnitude of discounts is high exhibit higher variability in category sales.
On the other hand, categories which are promoted more often exhibit significantly less
variability in category sales. Furthermore, our data suggest that bulky categories and
categories in which competitive intensity is high exhibit significantly lower variability.'5
However, our data indicate that the relationship between expensiveness and variability
is not statistically significant. Finally, from Column (1) in Table 2, all parameters except
the one for FREQ are significantly less than 1, indicating that changing the particular
variable has a diminishing effect on variability in category sales.

5. Summary and Concluding Comments

Marketing has a rich tradition of research on consumer response to sales promotions

(e.g., Webster 1965; Montgomery 1971; Shoemaker and Shoaf 1977; Guadagni and Little
1983; Sawyer and Dickson 1984; Narasimhan 1984; Neslin, Henderson, and Quelch
1985; Tellis 1988; Gupta 1988; Krishnamurthy and Raj 1988; Bawa and Shoemaker
1989; Kahn and Raju 1990). Our objective in this paper was to understand how pro-
motional activity relates to variability in category sales, an issue which is potentially
relevant from retailers' perspective, and has not been studied in previous research.

5.1. Managerial Implications

Before translating the results obtained from our data into managerial implications, it
is important to point out the following limitations of our descriptive study.
* We defined variability in category sales as the average of the differencesin sales from
the base level over the 25-week period. Sales may change from week to week due to
changes in promotional activity; however, sales may also differ from week to week even
when there is little difference in promotional activity. For example, sales can be higher
during a week which contains a holiday, even though the promotional activity in that
week may not be very different from the promotional activity in another week. To some
extent, the normalization procedure described in ?3.2.1 can take care of this problem.
However, sales may be affected by the promotional activity in another product category
in the same store, or promotional activity in another store in the same product category.
If these effects are large, our summary measure will be noisy. On the other hand, if the
noise in the measure does not vary systematically across the categories in our sample,
the estimated relationships would still be valid.
* Second, it is very important to note that the dependent variable in our study is based
on changes in sales and not profits. Changes in sales induced by price promotions may
not be reflective of changes in retailer profit even though price reductions at the retail
level are usually subsidized by trade promotions.
* Finally, our results are based on a correlational study and causation is implied, but
not formally tested.
These limitations of our descriptive study should be borne in mind while interpreting
any of the following managerial implications.

'5 The parameter estimate for COMP is positive, but COMP (Herfindahl Index) decreases as the degree of
competition in the product category increases.
EFFECT OF PRICE PROMOTIONS ON PRODUCT CATEGORY SALES 217

1. Our data indicate that a higher magnitude of discounts leads to a greatervariability

in category sales whereas a higher frequency leads to lower variability in category sales.
Hence, the potential for sales increases may be higher if deep discounts are offered less
frequently.
2. Our data indicate that bulky categories exhibit lower variability, suggesting thereby
that bulky categories may offer a lower potential for sales increases.
3. In the sample of categories analyzed, we found that high competitive intensity leads
to lower variability. Thus, categories with high competitive intensity may have a lower
potential for sales increases.

5.2. Future Research

Our objective was to link short-term variability in category sales to short-term pro-
motional activity and other category characteristics. It may be argued that short-term
variability does not necessarily imply an increase in category sales because a short-term
increase can be obtained by borrowing from future sales, or from the sales of other
product categories within the store. Though this criticism is valid, it is important to point
out that a long-term increase in category sales can occur only if promotions lead to a
short-term increase in sales to begin with. Hence, examining which categories respond
more to promotions in the short term is a useful starting point. Determining whether
the short-term increase in sales is incremental, borrowed from future, borrowed from
other categories in the same store, or obtained at the expense of other stores, is an issue
which needs to be examined in future research. Furthermore, our analysis explained
variability in category sales. A study examining the effect of price promotions on category
profits will be a desirable next step.
The multiplicative model explained less than half the variance in the dependent variable
(R2 = 0.41 ). It is therefore worthwhile to reflect on the factors which could possibly
account for the remaining variance. We argued earlier that ignoring feature and display
activity is not likely to cause serious problems because these two variables are very closely
correlatedwith price discount activity for which we have the data. However, manufacturer
coupon activity is generally quite independent of these three variables. It is possible that
a part of the variability can be accounted for by manufacturer coupons.
Previous research suggests that promotional activity is higher in categories which are
more competitive (Hauser and Wernerfelt 1990; Raju, Srinivasan, and Lal 1990). Our
data suggest that more competitive categories exhibit lower variability, implying that the
potential for increases in category sales may be lower in more competitive categories. It
will be interesting to examine whether retailer pass through of trade promotions is lower
in more competitive categories. If this is the case, manufacturers may want to adjust
their promotional mix by putting a greater emphasis on consumer promotions (e.g.,
coupons) in such categories.
We expected expensive categories to exhibit lower variability in sales, but our data
suggest that expensiveness does not seem to affect variability. Though the effect was not
statistically significant, it was in the right direction (see Table 2). Therefore, it may
be desirable to conduct additional studies, using larger sample sizes if possible, before
concluding whether or not expensiveness has an impact on variability in product cat-
egory sales.
On the methodological front, a number of improvements are possible. The unit of
analysis in our study was the product category and the estimation procedure used cross-
sectional data. It will be interesting to examine if the key variables identified in our study
can also be useful in explaining effect of price promotions on category sales over time as
218 JAGMOHAN S. RAJU

well as across categories simultaneously. This can be attempted using the approach sug-
gested in Gatignon and Hanssens (1987).
We also need richer analytical models which examine the impact of promotions on
category sales. Helsen and Schmittlein (1989) and Assuncao and Meyer (1990) have
made an excellent start in marketing by examining the impact of promotions on changes
in consumption and/or stockpiling. However, these models do not allow promotions to
have any effect on brand switching as only single-brand markets are analyzed. Hence,
these models may lead one to infer a larger impact of promotions on category sales than
may actually exist. Our finding that competition reduces variability in category sales
supports this conjecture. The effect of expensiveness can be examined by including a
budget constraint in the consumer utility maximization problem. We conjecture that
this constraint will act in a manner similar to the capacity constraintexamined in Magirou
(1982) by essentially truncating the optimal buying policy so that the purchased amount
is within the budget.
Despite its limitations, we hope that our analysis provides some potentially interesting
insights, and will be a useful starting point for understanding the effect of promotions at
the category level.16

Acknowledgements. The author wishes to thank John Hauser, David Schmittlein, the two anonymous
reviewers, Joao Assuncao, Ronald Goodstein, BarbaraKahn, Robert Meyer, and Don Morrison for their very
useful comments. The author is also very grateful to the organization, which wishes to remain anonymous, for
providing the data used in this research.

16This paper was received in March 1990 and has been with the author 5 months for 2 revisions. Processed
by David C. Schmittlein, former Area Editor.

Appendix 1. Three Measures of Competitive Intensity

1. The first measure (COMP) is equal to 2 7=is2, where si is the share of brand i, and n is the total number
of brands in the category. This measure, often called the Herfindahl index (Adelman 1969), is equal to 1/ n if
all brands have equal market shares. It will be greaterthan 1/ n if some brands have proportionallylargermarket
shares.
2. The second measure (COMP'), often referredto as the Rosenbluth-Hall-Tidemanindex (Waterson 1984,
p. 170), is equal to 1/2 =1 is, - 1, where i is the rank order (brand with highest market share assigned a rank
equal to 1 and so on) of that brand, si is the share of that brand, and n is the number of brands in the category.
The value of COMP' decreases as competitive intensity increases. This measure is less sensitive to the number
of brands in the product category as compared to the other two.
3. The third measure of competition (COMP") is equal to -Z ?= si log si, and is essentially an entropy
measure. When there is only one brand in the market, COMP" = 0. For more fragmented markets, the value
will be higher. The measure increases as competitive intensity increases.

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