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You are on page 1of 17

**c 2005 Springer Science + Business Media, Inc. Manufactured in the Netherlands.
**

Allocating a Promotion Budget between Advertising

and Sales Contest Prizes: An Integrated Marketing

Communications Perspective

PUSHKAR MURTHY pmurthy@epocrates.com

Senior Manager (Analytics), Epocrates Inc, San Mateo, CA 94404

MURALI K. MANTRALA

∗

mantralam@missouri.edu

Professor of Marketing, University of Missouri, 438 Cornell Hall, Columbia, MO 65211

Abstract

This paper develops and analyzes a normative model for allocating a ﬁxed, short-term promotion budget between

product advertising and prizes of a rank-order sales contest for a homogeneous sales force when sales are driven by

both personal selling effort and advertising. The model provides insights into how the optimal budget allocations

vary with the synergy between advertising and selling effort, sales force size, salesperson risk-tolerance, perceived

cost of effort, selling effectiveness and sales response uncertainty. The analysis highlights the need for and value

of close coordination between marketing and sales management in designing a promotion program involving both

advertising and sales force incentives.

Keywords: sales contests, advertising, integrated marketing communications, synergy, resource allocation

In many markets today such as ﬁnancial services or prescription drug sales settings, a ﬁrm’s

sales are a function of both advertising and personal selling efforts (e.g., journal and/or DTC

advertising, sampling and detailing in newpharmaceutical product marketing). Such efforts

can have main as well as interaction or synergistic effects as highlighted in the Integrated

Marketing Communications (IMC) literature, e.g., Schultz (1993), Belch and Belch (1998),

Naik and Raman (2003). For example, product advertising can make personal selling more

productive in business markets as demonstrated by Morrill (1970) over three decades ago.

In addition to raising selling effectiveness, advertising can also contribute to higher levels

of selling efﬁciency (Hutt and Speh, 2004, p. 412). Not surprisingly, companies like IDS

Financial Services utilize a mix of advertising and sales force incentive programs, e.g., sales

contest-based bonuses and memberships in the President’s Advisory Council for top ﬁnan-

cial agents, to drive sales (Deighton, 1996). Determining the optimal allocation of a ﬁxed

promotion budget between agent-focused sales incentives and customer-focused advertis-

ing taking into account any synergy between them is then a key decision for companies like

IDS (e.g., Drumwright, 1995). So far, however, no normative model-based solution to this

type of promotion mix resource allocation problem is found in the marketing literature.

∗

Corresponding author.

20 MURTHY AND MANTRALA

Prior research in the labor and personnel economics ﬁelds has examined the optimal use

and design of relative performance incentive schemes such as rank-order contests or “tour-

naments” (e.g., Lazear, 1998). Following this work, Kalra and Shi (2001) have investigated

the optimal design of a rank-order contest for a homogeneous sales force. Assuming the

sales outcome is logistically distributed and the contest budget is set high enough, Kalra and

Shi ﬁnd the total number of winners in a sales contest should not exceed half the number

of contestants. However, under the assumption of uniformly distributed sales, they ﬁnd a

single-prize “Winner-Take-All” contest is best. Kalra and Shi do not examine the optimal

division of a ﬁxed promotion budget between accompanying advertising and the optimal

contest taking into account their joint effect on sales. Our research pursues this direction.

More speciﬁcally, inthis paper we developandanalyze a normative model for determining

the optimal allocation of a ﬁxed, short-term promotion budget between advertising and

prizes of a rank-order sales contest when sales are affected by both personal selling effort

and advertising. The model provides insights into how the optimal advertising allocation

varies with synergy, sales force size, salesperson characteristics such as risk-tolerance,

perceived cost of effort, selling effectiveness, and sales response uncertainty. In this model,

we assume the sales outcome has a Gumbel distribution rather than the logistic or uniform

distributions assumed by Kalra and Shi (2001) and, consequently, some of our results on

prize structure (holding advertising constant) differ from theirs. In particular, under the

assumptions of our model, we ﬁnd the total number of winners in the contest should not

exceed approximately 63% of the participants. Thus, our work complements as well as

extends Kalra and Shi’s analysis while contributing to the IMC literature.

1. Model Setting and Deﬁnitions

Consider a short-term product promotion program by a ﬁrm that involves direct advertising

to customers and a rank-order sales contest to stimulate a homogeneous sales force, whose

preferences for income and leisure are known to the ﬁrm and to each other, deployed across

a set T of n independent sales territories. More speciﬁcally, suppose the sales force is of

size n and the contest has multiple prizes m(≤ n), each of monetary amount B

r

, r ={1, 2,

. . . ., m}. The ﬁrm’s level of advertising and contest prize structure are taken to be known

to the salespeople when they decide their selling efforts. The ﬁrm’s decision problem is to

allocate a ﬁxed promotion budget P between advertising A, and the contest prize amounts

B

r

(r = 1, 2, . . . , m), taking into account salesperson response to the promotion program.

1.1. Sales Response Model and Probability of Winning the Contest

We assume sales in territory T

i

∈ T are an outcome of salesperson i ’s selling effort x

i

(e.g., hours per period), as well as the ﬁrm’s advertising effort (dollars per period), A, and

both the ﬁrmand salespeople are equally well-informed about the territories’ uncertain sales

response functions. Speciﬁcally, we assume that these sales are comprised of a deterministic

ALLOCATING A PROMOTION BUDGET 21

and a random component which are additively separable, i.e.,

S

i

= R(x

i,

A) +ε

i

(1)

where,

S

i

= Total sales ($) generated over the promotion period in territory T

i

R(x

i

, A) = Deterministic sales response function for T

i

ε

i

= Random error term associated with i th sales territory.

Given (1), note that if Q

i

is the sales performance rank of agent T

i

fromthe top, then his/her

probability of winning the contest (with advertising A held constant) can be expressed as,

Prob(Q

i

= 1) = p(Q

i

= 1)

= p(S

i

≥ S

j

) ∀j ∈ T, j = i

= p(R(x

i

) +ε

i

≥ R(x

j

) +ε

j

) ∀j ∈ T, j = i

= p(ε

j

≤ R(x

i

) − R(x

j

) +ε

i

) ∀j ∈ T, j = i (2)

Hence, the probability of a particular salesperson winning the contest is a function of not

only his/her effort level, but that of the rest of the sales force as well.

1.2. Deterministic Sales Response Speciﬁcation

Following recent IMC models (e.g., Naik and Raman, 2003), we assume that the determin-

istic sales response function R is given by:

R(x

i

, A) = τ

0

+τ

1

· A +τ

2

· x

i

+τ

3

· A · x

i

. (3)

where,

τ

0

= Sales revenues when both advertising and selling effort equal zero (τ

0

≥ 0)

τ

1

= Effectiveness of advertising by the ﬁrm (τ

1

> 0)

τ

2

= Effectiveness of selling effort (τ

2

> 0)

τ

3

= Effect of interaction between advertising and selling effort (τ

3

≥ 0).

In equation (3), the parameter τ

3

represents the synergy between advertising and personal

selling because their combined impact exceeds the sum of the independent effects when τ

3

> 0 (Naik and Raman, 2003). Next, we deﬁne the model assumptions with respect to the

uncertain sales distributions.

1.3. Probability Distribution of Sales

In order to account for extreme values occasionally encountered in territory sales data,

we let the random error term ε

i

be independently and identically Gumbel [Extreme value

22 MURTHY AND MANTRALA

distribution] distributed with scale parameter =µ and location parameter = −γ/µ (where

γ = 0.577. . . is the Euler constant). Such a distribution possesses the following properties,

E(ε

i

) = 0 ∀i ∈ T

var(ε

i

) = π

2

/6µ

2

∀i ∈ T (4)

E(ε

i

ε

j

) = 0 ∀i, j ∈ T, i = j.

The density function for each ε

i

is:

f (ε

i

) = µe

−(µε

i

+γ )

· e

−e

−(µε

i

+γ )

∀i ∈ T. (5)

1.4. Salesperson Utility Function

Following extant models in the sales force compensation literature, we assume that the sales-

person’s net utility function is additively separable in utility of income,U(.), and disutility

of selling effort,V(x),and given by U(.) – V(x). More speciﬁcally, following Rao (1990),

we assume salesperson i disutility for effort V(x

i

) to be convex in effort x

i

,and adopt a

quadratic speciﬁcation for it:

V(x

i

) =

β

2

x

2

i

; where β > 0 is the disutility parameter. (6)

Now, every salesperson has a particular probability for winning a certain prize from which

he/she derives utility. A salesperson’s expected utility is the summation (over all possible

payouts) of the product of the utility derived from a particular payout and the probability

associated with achieving it. The i th salesperson’s net expected utility function can be

expressed as:

E(W

i

) =

m

¸

r=1

p(Q

i

= r) · U(B

r

) − V(x

i

). (7)

Sales representatives may be risk-neutral or risk-averse. The power utility function speciﬁ-

cation, e.g., Basu et al. (1985), captures this behavior, i.e.,

U(B

r

) =

1

δ

(B

r

)

δ

; δ > 0 (8)

where, δ = risk-aversion parameter. For a risk-neutral salesperson δ = 1, while for a risk-

averse salesperson 0 < δ < 1.

2. Salesperson’s Response to the Promotion Program

Following the economic tournament theory perspective (e.g., Lazear, 1998) a salesperson

is assumed to put in a level of effort x

∗

i

that maximizes his/her expected utility subject to

the satisfaction of the minimum utility (participation) constraint, taking into account that

all the other contenders will also be acting to maximize their net utility. That is, salesperson

i ’s problem (M1) is to:

ALLOCATING A PROMOTION BUDGET 23

M1: Maximize

x

i

E(W

i

)

subject to E(W

i

)|

x

i

=x

∗

i

≥ W

min

i

; and

∂ E(W

i

)

∂x

i

x

i

=x

∗

i

= 0 ∀i ∈ T

where,

∂ E(W

i

)

∂x

i

=

m

¸

j =1

U(B

j

) ·

∂p(Q

i

= j )

∂x

i

−

∂V(x

i

)

∂x

i

. (9)

W

min

i

is the minimum utility of the i th salesperson that needs to be satisﬁed for him/her

to participate in the contest. Because E(W

i

)is concave and continuously differentiable in

x

i

, and the feasible set of efforts, X, is compact, existence of a Nash equilibrium vector

x*= [x

∗

1

,. . . . . . . . . , x

∗

n

]

T

can be proven using variational inequality theory (Nagurney, 1993).

2.1. Equilibrium Level of Effort

In M1, the equilibrium level of effort that maximizes salesperson expected utility is given

by (please refer to Appendix A for proof):

x

∗

=

µ(τ

2

+τ

3

A)

nβ

m

¸

r=1

ω

r

· U(B

r

) (10)

where, for the sake of analytical convenience, we have set

ω

r

= 1 −

n−1

¸

k=n−r

1

k +1

. (11)

It is readily apparent from the above that ω

1

> ω

2

>. . .

Equation (10) leads us to three propositions that are important to understanding how the

ﬁrm should allocate its limited promotion budget between advertising and contest prizes.

Proposition 1. When there is positive synergy between advertising and selling effort, the

salesperson effort induced by the sales contest increases as the level of advertising A by the

ﬁrm increases. Conversely, in the absence of synergy, sales force effort is dependent only

on the contest prize(s) and is independent of the level of advertising by the ﬁrm.

Proposition 2. All else equal, the salesperson effort induced by the sales contest will

decrease with (a) increase in sales uncertainty (i.e. decrease in scale parameter, µ); (b) an

increase in salesperson disutility parameter, β; (c) decrease in effectiveness of sales effort,

τ

2

; (d) decrease in synergy, τ

3

.

24 MURTHY AND MANTRALA

2.2. Effort-Maximizing Number of Prizes

The contest may have one or more prizes. Within the context of our model assumptions, the

following proposition establishes the maximum number of prizes for an effort-maximizing

contest (see Appendix B).

Proposition 3. In order to maximize effort, a contest for a homogeneous risk-neutral or

risk-averse sales force should have multiple prizes not exceeding approximately 63% of the

sales force size.

Proof: From (10) we see that the allocated equilibrium effort x

∗

is a linear function of

the utilities obtained from the various prizes. We also see that irrespective of the prize

values, x

∗

increases initially with an increase in the number of prizes m. However, after

a certain number of prizes, the coefﬁcient on the utility obtained from a particular prize

is negative. This implies that x

∗

decreases once a certain number of prizes is exceeded.

Hence, the maximum number of prizes M−1 has to determined such that ω

M

=0 (because

ω

M+1

< 0). Appendix B shows that for a large sales force, M’s ratio to n is about 63%:

i.e., M ∼ n · (

e−1

e

) + 1. For example, for a 100 member salesforce, 63 prizes of 10 value

units each (say) would produce greater salesforce effort than 70 prizes of 10 value units

each.

3. Firm’s Problem

The ﬁrm’s problem of allocating a ﬁxed promotion budget P between advertising and the

sales contest is expressed in the following agency-theoretic formulation:

M2: Maximize E(π)

A,B

1

,B

2

,...,B

m

= gnR(x

∗

) − A −

m

¸

j =1

B

j

Subject to:

E(W)|

x=x

∗ ≥ W

min

A +

m

¸

j =1

B

j

≤ P

A ≥ 0, B

j

≥ 0 ∀j

Hereafter, we assume the gross margin g, expressed as a fraction of the selling price, is

constant and, for the sake of expositional convenience, set equal to 1. Below, in Section 3.1

we investigate the solution to the ﬁrm’s budget allocation problem (M2) in the special

case when salesperson participation in the contest is guaranteed, i.e., when the required

threshold utility is sufﬁciently lowenough so that the participation constraint can be ignored.

We consider both risk-neutral and risk-averse sales forces in this analysis. Subsequently, in

Section 3.2, we examine the solution to the ﬁrm’s allocation problemwhen the participation

constraint is binding and the sales force is either risk-neutral or risk-averse.

ALLOCATING A PROMOTION BUDGET 25

3.1. Promotion Budget Allocation When Sales Force Participation in Contest

is Guaranteed

3.1.1. Risk-Neutral Sales Force. From (10), the equilibrium level of effort for a risk-

neutral salesperson is:

x

∗

=

µ(τ

2

+τ

3

A)

nβ

m

¸

r=1

ω

r

· B

r

(12)

where B

r

is the r

th

prize in the sales contest.

When participation is guaranteed, and there is a constraint or limit on the contest budget,

B > 0, it is known that the equilibrium level of effort for a risk-neutral sales force is

maximized when there is a single prize, viz, B

1

= B and B

2

= B

3

= · · · = B

m

= 0

(i.e., a Winner-Take-All form of rank-order contest, see, e.g., Kalra and Shi, 2001). Then,

substituting the expression for the optimal effort (12) given a single prize (i.e., r = 1) of

value B

1

= B = P – A into the ﬁrm’s objective function in M2, the optimal advertising

allocation is given by:

A

∗

=

P

3

−

2τ

2

3τ

3

+

P

3

−

2τ

2

3τ

3

2

−

(kτ

2

2

−2kτ

2

τ

3

P −τ

1

)

3kτ

2

3

(13)

where,

k =

µω

1

nβ

.

It follows that the optimal single contest prize amount is given by B

∗

= P – A

∗

.

As summarized in the following proposition, equation (13) reveals the impact of synergy

on the ratio of advertising to contest budget allocations when the sales response function is

as speciﬁed in (3).

Proposition 4. When the sales force is risk-neutral and their participation in the contest

is guaranteed, as synergy (τ

3

) increases from zero with all else remaining constant, the

optimal allocation of the ﬁxed promotional budget P to advertising increases from zero to

2P/3 if τ

1

≤ kτ

2

2

(where k =

µω

1

nβ

) or decreases from P to 2P/3 if τ

1

> kτ

2

2

.

Proof: Suppose the synergy parameter τ

3

= 0. Then, the sales response function (3)

reduces to the following:

R(x

∗

, A

∗

) = τ

0

+τ

1

· A

∗

+τ

2

· x

∗

(14)

Or, upon substituting for x

∗

from (10), and recognizing that B

∗

= P − A

∗

,

R(A

∗

) = τ

0

+

τ

1

−kτ

2

2

· A

∗

+kτ

2

2

P. (15)

It is evident from (15) that the ﬁrm will choose to allocate the entire ﬁxed promotion budget

P to advertising (i.e. A

∗

= P, B

∗

= 0) if τ

1

> kτ

2

2

, or to the contest (i.e. A

∗

= 0, B

∗

= P) if

τ

1

≤ τ

2

2

k. However, this “all or nothing” budget allocation to advertising is modiﬁed when

26 MURTHY AND MANTRALA

synergy is positive (i.e. τ

3

> 0). More precisely, with other parameter values remaining

constant, as synergy increases from zero, we observe from (13) that:

lim

τ

3

→∞

A

∗

=

2P

3

.

Hence, as the magnitude of synergy becomes larger, the ﬁrm should decrease the alloca-

tion to advertising from 100% to two-thirds of the budget when τ

1

> kτ

2

2

or increase the

allocation to advertising from 0% to two-thirds of the promotion budget if τ

1

< kτ

2

2

. Intu-

itively, the optimal budget allocation depends upon the relative effectiveness of advertising

and sales force efforts, i.e., τ

1

versus τ

2

2

k. However, as synergy increases, it is optimal to

increase the budget allocation to the less effective type of promotion effort.

Next, we examine the change in advertising allocation with variation in other sales

response parameters, holding synergy constant at some positive value.

Proposition 5. When the sales force is risk-neutral and participation is guaranteed,

all else remaining constant, the proportion of the ﬁxed promotional budget allocated to

advertising(a) increases withincrease insales force size, n (>2); (b) decreases withdecrease

in sales uncertainty (i.e. increase in scale parameter, µ); (c) increases with increase in

salesperson disutility coefﬁcient, β.

Proof: We re-arrange (13) as follows:

A

∗

=

P

3

−

2τ

2

3τ

3

+

P

3

−

2τ

2

3τ

3

2

−

τ

2

2

3τ

2

3

−

2τ

2

3τ

3

−

τ

t

3kτ

2

3

. (16)

This implies that an increase in k will decrease A

∗

. Since, k =

µω

1

nβ

=

µ

nβ

(1 −

1

n

), the results

follow. Further, note that when τ

3

= 0, Proposition 5 applies in a nonmonotonic way, i.e.,

all else remaining constant, there is a threshold value k* = τ

1

/ τ

2

2

such that for k ≤ (>) k*

all of the budget should be allocated to the sales contest (advertising).

3.1.2. Risk-Averse Sales Force. When salespeople are risk-averse, having more than one

prize in the contest stimulates more selling effort (Kalra and Shi, 2001). Within the context

of our model, Proposition 3 establishes the maximum number should be 63% of the sales

force size. Proposition 6 speaks to how the optimal allocations of the promotion budget

change with increasing synergy when salespeople are risk-averse.

Proposition 6. When the sales force is risk-averse and participation is guaranteed,as

synergy (τ

3

) increases from zero with all else remaining constant, the optimal allocation of

the ﬁxed promotional budget (P) to advertising will increase from

P −

kδτ

2

2

τ

1

1/1−δ

to

2

2 +δ

P if P ≤

(2 +δ)

δ

kδτ

2

2

τ

1

1/1−δ.

,

ALLOCATING A PROMOTION BUDGET 27

where

k =

µω

1

nβδ

·

1 +

m

¸

r=2

ω

r

ω

1

1

1−δ

1−δ

,

or decrease from

P −

kδτ

2

2

τ

1

1/1−δ

to

2

2 +δ

P if P >

(2 +δ)

δ

kδτ

2

2

τ

1

1/1−δ

.

Proof: Please refer to Appendix C where it is also shown that the optimal value of the rth

contest prize is given by

B

r

=

ω

1

1−δ

r

¸

m

i =1

ω

1

1−δ

i

B

where

B = P − A

∗

.

It can be seen that Proposition 4 pertaining to the risk-neutral sales force is the special

case of Proposition 6 when δ =1. An important difference, however, is that salesperson

risk-aversion induces positive allocations of the budget to both advertising and the contest

even when there is no synergy.

In the next section we investigate the ﬁrm’s optimal promotion budget allocation when

sales force participation in the contest is not guaranteed, and so the ﬁrm designs the contest

to ensure that the participation constraint is exactly met.

3.2. Promotion Budget Allocation When Participation Constraint is Binding

In order to ensure that the contest participation constraint is exactly met, the participation

constraint must hold as an equality. Substituting the probability of winning a prize, disutility

of effort (6) and equilibriumeffort level (10) in the expected net utility expression (7) we get:

E(W) =

m

¸

r=1

U(B

∗

r

)

n −r +1

−

µ

2

2n

2

β

· (τ

2

+τ

3

A

∗

)

2

·

m

¸

r=1

ω

r

· U(B

∗

r

)

2

= W

min

. (17)

Equation (17) leads to the following proposition that applies to either a risk-neutral or

risk-averse sales force in the presence of positive synergy.

Proposition 7. When the participation constraint is binding, all else remaining constant,

the ﬁrm’s optimal allocation of the ﬁxed promotion budget to advertising increases with

(a) increase in sales uncertainty (i.e., decrease in scale parameter, µ); (b) increase in

salesperson disutility parameter, β; (c) decrease in the effectiveness of selling effort, τ

2

;

(d) decrease in synergy, τ

3

.

28 MURTHY AND MANTRALA

Proof: Proposition 7 follows from Proposition (2). To maintain the equality (17), the ﬁrm

must increase its advertising allocation as sales force effort decreases with any of the above

changes in salesperson and sales response parameters.

Next, we examine the impact on the promotion budget allocation of decreasing sales

force risk-aversion (i.e. increasing δ, 0 < δ ≤ 1) when (17) is maintained. Differentiating

(17) with respect to δ we get:

∂ E(W)

∂δ

=

ln δ −

1

δ

· [W

min

− V(x)] (18)

This result leads to the following proposition:

Proposition 8. The ﬁrm should increase the allocation of the promotion budget to the

contest as the sales force becomes less risk-averse, i.e., as δ increases.

Proof: From (18) we see that the overall expected net utility declines as δ increases

(assuming the magnitude of the disutility from effort is less than that of the minimum

expected net utility from participation) and, therefore, the allocation of the promotion

budget to the contest must increase to maintain (18). Thus with increasing risk aversion,

the proportion of the budget allocated to advertising increases as well as the contest design

has more winners.

Lastly, we examine the impact of increasing sales force size n when the individual

rationality constraint is exactly satisﬁed. Differentiating (17) with respect to n we get:

∂ E(W)

∂n

= −

m

¸

r=1

U(B

r

)

(n −r +1)

2

−

µ

2

n

2

β

· (τ

2

+τ

3

A)

2

·

m

¸

r=1

ω

r

· U(B

r

)

(19)

·

¸

m

¸

r=1

U(B

r

)

∂ω

r

∂n

−

ω

r

n

.

From the ﬁrst term of (19) we note that the utility from the monetary incentive decreases

as sales force size increases. The impact of an increase in sales force size on the overall

expected net utility and its implications for the allocation of the promotion budget depend,

in general, upon the size and number of the contest prizes. We illustrate using the special

case of a contest with multiple (say m), equal prizes of magnitude b each i.e., a “Multiple

Winners” (MW) contest which is most likely to result in the satisfaction of the individual

rationality constraint, whether the sales force is risk-neutral or risk-averse (Kalra and Shi,

2001). Under a MW contest, (19) becomes:

∂ E(W)

∂n

= −U(b)

m

¸

r=1

1

(n −r +1)

2

−

µ

2

n

2

β

· (τ

2

+τ

3

A)

2

· [U(b)]

2

·

m

¸

r=1

ω

r

·

¸

m

¸

r=1

∂ω

r

∂n

−

ω

r

n

(20)

ALLOCATING A PROMOTION BUDGET 29

Table 1. Optimal Constrained Budget Allocation to Advertising and Sales Contest: Sum-

mary of Results.

Effect on proportion

Increase in of promotion budget

parameter allocated to advertising

Sales force size Depends on the proportion of contest winners

(if fewer than 63% then increase, else decrease)

Sales uncertainty Increase

Disutility Increase

Risk aversion Increase

Selling effectiveness Decrease

Synergy Depends on initial allocation when synergy was absent

(if initially allocated to contest then increase, else decrease)

Proposition 9. If the ﬁrmruns a Multiple Winners contest with the number of prizes mless

(more) than 63% of the sales force size, then it should allocate a greater (lower) proportion

of the promotion budget to advertising as the sales force size increases.

Proof: Following Proposition 3, note that if the number of prizes m < M ∼ n · (

e−1

e

) +1

then the term [

¸

m

r=1

(

∂ω

r

∂n

−

ω

r

n

)] is negative, making the second term of (20) positive. This

implies that the reduction in incentive utility from the contest is offset by the decreased

disutility from effort (owing to reduced effort on the part of the sales force). Hence, the

individual rationality constraint is satisﬁed but at a lower level of selling effort as sales

force size increases, calling for the ﬁrm to allocate a greater proportion of the promotion

budget to advertising. However, if the number of prizes m were greater than M, then the

term [

¸

m

r=1

(

∂ω

r

∂n

−

ω

r

n

)] in (20) becomes positive, making the entire second term of (20)

negative. Therefore, the disutility from effort increases (owing to increased effort), and

the individual rationality constraint would not be satisﬁed. The ﬁrm should then allocate a

greater (lower) proportion of the promotion budget to the contest (advertising) as the sales

force size increases.

4. Conclusions

Summary of results: Table 1 summarizes the collective insights across all scenarios (partici-

pation constraint binding or not; risk-neutral and risk-averse salespeople) we have analyzed

in this paper.

Extensions and Future Research Directions: To highlight the role of synergy, our analysis

has assumed a linear rather than the usual concave formof main effect of advertising on sales

response. This is a simplifying but fair assumption in problem settings where the operating

range of advertising effort is constrained by a relatively small promotion budget and sales

response over this limited range is approximately linear. If the main effect were concave,

the “all or nothing” allocation and the parametric conditions under which the advertising

30 MURTHY AND MANTRALA

allocation increases or decreases as synergy increases (Propositions 4 and 6), would be

modiﬁed. However, because the optimal selling effort under the contest (equation (10)) is

unaffected by a nonlinearity in the main effect of advertising, Propositions 1–3 will continue

to hold as would the main insights of Propositions 5–9. However, further research on the

effects of response function nonlinearity as well as other complexities such as information

asymmetry and sales force heterogeneity in the advertising-sales contest budget allocation

problem is warranted.

This paper contributes to the marketing science and IMC literatures by offering insights

into the optimal allocation of a ﬁxed promotion budget between advertising and the prizes

of an accompanying rank-order sales contest for a homogeneous sales force. The analy-

sis highlights the need for and value of close coordination between advertising and sales

management in designing integrated sales promotion and incentives programs. The pro-

posed model is implementable and can be utilized to guide advertising plus contest budget

allocation decisions.

Appendix A: Equilibrium Level of Effort

The probability that T

i

is ranked r from the top is the probability that there are exactly r −1

salespersons who are ranked above T

i

, and n −r salespersons who are ranked below. Let

K

r−1

i

be the set of salespeople who are ranked above T

i

, and K

n−r

i

be the set of sales people

ranked below. Then using (2), the probability of ranking below T

i

can be expressed as:

p(ε

j

≤ R(x

i

) − R(x

j

) +ε

i

) ∀j ∈ K

n−r

i

, j = i (A1)

=

R(x

i

)−R(x

j

)+ε

i

−∞

f (ε

j

)dε

j

∀j ∈ K

n−r

i

, j = i (A2)

= e

−e

[−µR(x

i

)−µR(x

j

)+µε

i

+γ ]

∀j ∈ K

n−r

i

, j = i (A3)

Similarly, the probability of ranking above T

i

can be expressed as:

= 1 −e

−e

−[µR(x

i

)−µR(x

k

)+µε

i

+γ ]

∀k ∈ K

r−1

i

, k = i (A4)

The probability of T

i

ﬁnishing in the rth position from the top is given by:

p(Q

i

= r) =

(n −1)!

(n −r)! · (r −1)!

∞

−∞

f (ε

i

) ·

¸

k∈K

n−r

i

,k=i

¸

e

−e

−[µR(x

i

)−µR(x

k

)+µε

i

+γ ]

¸

·

¸

k∈K

r−1

i

,k=i

¸

1 −e

−e

−[µR(x

i

)−µR(x

k

)+µε

i

+γ ]

¸

· dε

i

(A5)

The reader will notice that in the event of T

i

ranking ﬁrst, (A5) reduces to the familiar

multinomial logit model:

p(Q

i

= 1) =

e

µR

(x

i

)

¸

j ∈T

e

µR

(x

j

)

(A6)

ALLOCATING A PROMOTION BUDGET 31

The tournament economics literature has demonstrated that every member of a homogenous

sales force will exhibit the same effort level x

∗

at equilibrium, and hence shall enjoy the

same probability of winning a prize. In other words,

p(Q

j

= r)|

x

j

=x

∗

∀j ∈T

=

1

n

∀r ∈ {1, 2, . . . , n} (A7)

Now consider a situation where the rest of the sales force is exhibiting effort z, while

salesperson T

i

is exhibiting a different level of effort x

i

. Under this scenario, (A5) becomes:

p(Q

i

= r) =

(n −1)!

(n −r)! · (r −1)!

∞

−∞

f (ε

i

) ·

¸

e

−e

−[µR(x

i

)−µR(z)+γ +µε

i

]

¸

n−r

·

¸

1 −e

−e

−[µR(x

i

)−µR(z)+γ +µε

i

]

¸

r−1

· dε

i

(A8)

By using the density function (8) and by making the following substitution,

t = e

−e

−[µR(x

i

)−µR(z)+γ +µε

i

]

we get:

p(Q

i

= r) =

(n −1)!

(n −r)!(r −1)!

· e

µ[R(x

i

)−R(z)]

1

0

t

n−r−1+e

µ[R(x

i

)−R(z)]

· (1 −t )

r−1

dt (A9)

The integral in (A9) is the well-known beta function B(x, y) (Kreyszig, 1983):

B(x, y) =

1

0

t

x−1

(1 −t )

y−1

dt =

(x)(y)

(x + y)

∀x > 0, y > 0 (A10)

where (y) is the gamma function:

(y) =

∞

0

u

y−1

e

−u

du =

(y +h +1)

y(y +1) · · · ·(y +h)

(A11)

Using the expression (A10) in (A9) we get:

p(Q

i

= r) =

(n −1)!

(n −r)!(r −1)!

· e

µ[R(x

i

)−R(z)]

·

(n −r +e

µ[R(x

i

)−R(z)]

) · (r)

(n +e

µ[R(x

i

)−R(z)]

)

(A12)

Using the right-hand side expression in (A11), and recognizing that (r) =(r−1)! we get:

p(Q

i

= r) =

(n −1)!

(n −r)!

· e

µ[R(x

i

)−R(z)]

·

n−1

¸

k=n−r

(k+e

µ[R(x

i

)−R(z)]

)

−1

(A13)

Taking logarithm on both sides we obtain:

ln[ p(Q

i

= r)] = ln

¸

(n −1)!

(n −r)!

¸

+µ[R(x

i

) − R(z)] −

n−1

¸

k=n−r

ln(k +e

µ[R(x

i

)−R(z)]

)

(A14)

Differentiating both sides wrt x

i

we get:

∂p(Q

i

= r)

∂x

i

= p(Q

i

= r) · µ · R

(x

i

) ·

¸

1 −

n−1

¸

k=n−r

e

µ[R(x

i

)−R(z)]

k +e

µ[R(x

i

)−R(z)]

¸

(A15)

32 MURTHY AND MANTRALA

Given that we have an identical sales force, everyone is going to exhibit the same level of

effort and consequently enjoy the same probability of winning a prize. Hence, at equilibrium,

x

i

= x

∗

& p(Q

i

= r) = 1/n. Consequently (A15) becomes:

∂p(Q

i

= r)

∂x

i

=

µR

(x

∗

)

n

·

¸

1 −

n−1

¸

k=n−r

1

k +1

¸

(A16)

We assume salesperson disutility V(x) to be convex in effort x:

V(x) =

β

2

x

2

(β > 0) (A17)

Using (A16) in solving salesperson’s expected utility-maximizing problem (4), we get:

µR

(x

∗

)

n

·

m

¸

r=1

¸¸

1 −

n−1

¸

k=n−r

1

k +1

· U(B

r

)

¸

= V

(x

∗

) (A18)

Using (6) and (A17) to deﬁne the response function and disutility function respectively, we

obtain:

x

∗

=

µ(τ

2

+τ

3

A)

nβ

m

¸

r=1

¸

1 −

n−1

¸

k=n−r

1

k +1

· U(B

r

) (A19)

Appendix B: Maximum Number of Prizes

From (A19) we see that the allocated equilibrium effort x

∗

increases initially with the in-

crease in the number of prizes m. However, after a certain number of prizes, the coefﬁcient

on the utility obtained from a particular prize salary is negative. This implies that x

∗

de-

creases once a certain number of prizes is exceeded. Hence, the maximum number of prizes

M has to determined such that:

ω

M

= 1 −

n−1

¸

k=n−M

1

k +1

= 0 (B1)

The summation expression in (B1) may be regarded as the difference between two Harmonic

series, H(n) and H(n − M), where H(n) is deﬁned by:

H(n) = 1 +

1

2

+

1

3

+· · · · · +

1

n

(B2)

Hence, our problem is to determine M for a given n, such that:

H(n) − H(n − M) = 1 (B3)

Now, H(z) may be expressed as:

H(z) = γ +ψ

0

(z +1) (B4)

ALLOCATING A PROMOTION BUDGET 33

where γ (= 0.577. . . .) is the Euler constant, and ψ

0

is the digamma function:

ψ

0

(z) =

(z)

(z)

= ln(z −1) +

1

2(z −1)

−

∞

¸

i =1

b

2i

2i (z)

2i

(B5)

and b

2i

are Bernoulli numbers.

Substituting the relations (B4) and (B5) in (B3), and ignoring the difference in the sum-

mation of the Bernoulli terms we obtain,

ln

n

n − M

=

M

2n(n − M)

+1 (B6)

For large n 0, an approximate solution is:

M ∼ n ·

e −1

e

+1 (B7)

Appendix C: Advertising Allocation When Sales Force Participation is Guaranteed

Let B = P − A denote the total prize amount allocated for the sales contest with a total

of m prizes, where B

r

denotes the r

t h

prize. Recognizing that the very last prize B

m

=

B −

¸

m−1

i =1

B

i

, and substituting the power-utility function (8), the expression for sales force

effort (10) becomes

x =

µ(τ

2

+τ

3

A)

nβδ

¸

ω

1

B

δ

1

+ω

2

B

δ

2

+· · · +ω

m−1

B

δ

m−1

+ω

m

B −

m−1

¸

i =1

B

i

δ

(C1)

In order to maximize the effort in (C1), we evaluate the ﬁrst-order conditions against any

prize level B

r

∂x

∂ B

r

=

µ(τ

2

+τ

3

A)

nβ

¸

ω

r

B

δ−1

r

−ω

m

B −

m−1

¸

i =1

B

i

δ−1

= 0 (C2)

From (C2), we obtain the following,

B

r

=

ω

m

ω

r

1

δ−1

B −

m−1

¸

i =1

B

i

(C3)

Using (C3), and the expression

¸

m

i =1

B

i

= B, we get

B

r

=

ω

1

1−δ

r

¸

m

i =1

ω

1

1−δ

i

B (C4)

And the expression for salesforce effort (10) becomes

x =

µ(τ

2

+τ

3

A)

nβ

B

δ

δ

m

¸

r=1

ω

1

1−δ

r

1−δ

(C5)

34 MURTHY AND MANTRALA

Substituting (C5) in the ﬁrm’s proﬁt function (M2), and imposing the constraint that B =

P − A we get

E(π) = gn

¸

τ

0

+τ

1

A +

µ

nβ

(τ

2

+τ

3

A)

2

·

(P − A)

δ

δ

·

m

¸

r=1

ω

1

1−δ

r

1−δ

− P (C6)

First-order conditions of the ﬁrm’s proﬁt function in (C6) with respect to advertising A

results in the following expression,

¸

(2 +δ)A +δ

τ

2

τ

3

−2P

¸

·

τ

2

τ

3

+ A

=

τ

1

kτ

2

3

· (P − A)

1−δ

(C7)

where

k =

µω

1

nβδ

· (1 +

m

¸

r=2

(

ω

r

ω

1

)

1

1−δ

)

1−δ

For a risk-neutral sales force, δ=1, and (C7) reduces to the expression for optimal adver-

tising in (13). Expression (C7) shows that in the absence of synergy (τ

3

= 0), the optimal

advertising is given by:

A

∗

= P −

kδτ

2

2

τ

1

1/1−δ

(C8)

And that in the limit as synergy increases and approaches inﬁnity,

A

∗

=

2

2 +δ

P (C9)

So, if the advertising allocation given by (C8) is > (≤) the limit (C9), i.e., if P > (≤)

(2+δ

δ

(

kδτ

2

2

τ

1

)

1/1−δ

, then the optimal advertising allocation decreases (increases) as synergy

increases. The corresponding result in the special case of a risk-neutral sales force (δ = 1)

is discussed in Proposition 2.

References

Basu, A., R. Lal, V. Srinivasan, and R. Staelin. (1985). “Sales Force Compensation Plans: An Agency Theoretic

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Belch, G. E. and M. A. Belch. (1998). Advertising and Promotion: An Integrated Marketing Communications

Perspective, 4th edition, Boston, MA: Irwin-McGraw Hill Inc.

Deighton, J. (1996). IDS Financial Services (Condensed). Boston, MA: Harvard Business School Publishing.

Drumwright, M. E. (1995). IDS Financial Services. Boston, MA: Harvard Business School Publishing.

Hutt, M. D. and T. W. Speh. (2004). Business Marketing Management: A Strategic View of Industrial and Orga-

nizational Markets, 8th edition, Mason, Ohio: Thomson South-Western.

Kalra, A. and M. Shi. (2001). “Designing Optimal Sales Contests: A Theoretical Perspective,” Marketing Science

20(2), 170–193.

Kreyzsig, E. (1983). Advanced Engineering Mathematics 5th edition, Wiley Eastern Limited.

Lazear, E. P. (1998). Personnel Economics for Managers. New York, NY: John Wiley & Sons.

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