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VOLUME 3 NUMBER 3

1994

Advertising, Barriers to Entry


and Competition Policy
Christopher Pass, Brian Sturgess and Nicholas Wilson

Introduction invention and innovation. Product


The controversy as to whether or not differentiation advantages derive from the
advertising impairs the efficient functioning ability of a firm to offer customers products
of markets because it can act as a “barrier” to which are more distinctive/“better than”
new firms entering a market has once again competing products, enabling it to establish
attracted the interest of the UK competition brand loyalty. The sources of differentiation
authorities. In this article we look at the are manifold ranging from variations in the
advertising-barrier to entry issue as seen in a product itself, “imputed qualities” of the
number of Monopolies and Mergers product imparted by advertising “messages”,
Commission investigations. Our contention is distribution methods and after-sales service
that not only must the conventional negative facilities. Product innovation is a key aspect
view of advertising be tempered by the of sustaining product differentiation
positive role played by advertising in advantages over time.
facilitating actual entry, but also that insofar In practice, there are various obstacles in
as there are a number of other factors which the way of firms attempting to enter a market
may inhibit or prevent market entry, it is (see George et al., 1992 for a detailed
necessary to look at this issue “in the round” review): the minimum efficient scale of
rather than from one narrow perspective. operation may require entry on a large scale,
otherwise entrants would be put at a relative
cost disadvantage; however, the size of the
Market Entry: General Considerations market might be too small to support another
In order to enter a market successfully and major supplier; entrants may be put at a cost
sustain its position over time, a firm must disadvantage because they are unable to
usually possess some form of competitive access best state-of-the-art process
advantage over rival suppliers. According to technology if this is patented by established
Porter (1985) competitive advantage is based firms; entrants with “unknown” and “untried”
on two main factors: low costs and product
differentiation. Low costs derive from the
exploitation of economies of scale, learning The present writers were commissioned by the
Office of Fair Trading (OFT) in 1993 to examine
effects, and the generation of process this issue in depth. A report, “Advertising As An
Entry Barrier: A Survey of the Theoretical and
Journal of Product & Brand Management, Vol. 3 No. 3, 1994, pp. 51-58
Empirical Evidence” was submitted to the OFT
© MCB University Press, 1061-0421 in 1994.

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products may be unable to win a viable share market theory as barriers to entry now
of the market because of customer loyalty to become variables which can be exploited as a
existing brands built-up by established firms means of achieving successful entry.
through cumulative investment in product Advertising is a case in point. On the one
differentiation; key raw materials, hand, as emphasized by traditional theory it
component sources or distribution channels may in certain circumstances act as a barrier
may be controlled by established firms, to entry; but, on the other hand, advertising
thereby limiting access to inputs or market can be shown to play a fundamental role in
outlets; finally, the cost of financing supporting and underpinning actual entry –
investment in plant and product advertising is an essential factor in launching,
differentiation, and meeting initial operating building and maintaining demand for the
losses may be prohibitively high. Some of products of new entrants.
these barriers may be created deliberately by
established firms to forestall entry (for
example, the “tying” of distribution channels The Monopolies and Mergers
through exclusive dealing contracts); Commission and Advertising as a
additionally, the anticipation of aggressive Barrier to Entry
retaliation by established firms to actual
The contrasting roles of advertising as a
entry may well deter potential newcomers
“barrier to entry” and as an “entry facilitator”
from going ahead.
is exemplified in the Commission’s reports on
One or some combination thereof of the
above factors may pose particular problems Household Detergents (1966) and
for a small scale “greenfield” type of entrant. Stockbrokers’ Services (1976). These cases
However, these factors are often of less together with a number of other market
significance to “deep pocket” entrants, situations involving advertising (or lack of it),
particularly established large conglomerate are reviewed further.
entrants who may choose to effect entry by
merger with, or takeover of, an established
firm. Advertising as a Barrier to Entry
Moreover, the conventional view of the In Household Detergents (1966) the industry
potency of barriers to entry can be criticized was dominated by two suppliers: Unilever
for being too myopic because it with a market share of around 45 per cent
ignores/underestimates the dynamics of and Proctor & Gamble (P&G) with a market
market competition. Firms’ cost-structures share of around 43 per cent. Overall market
can change as a result of new techniques, demand for detergents had remained fairly
product innovation can result in firms static. Actual competitors at this time
offering new and improved products and included Palmolive, The Co-operative
changes in the level and pattern of demand Wholesale Society(CWS), and “own label”
provide an on-going fluid marketplace. Thus, retailers. Potential competitors included
unless established firms are cost-effective, Shell and Marchon, suppliers of “active
active innovators and sensitive to changing ingredients” to Unilever and P&G who
demand opportunities for entry may arise. might be tempted to integrate forward into
Here indeed is the crux of the matter. In the retail market.
dynamic terms, certain factors (technology, Unilever pioneered the introduction of soap
differentiation, etc.) which appear in static powders in the UK in the early 1900s and by

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the use of branding (Persil, Rinso etc) heavy between the two companies was entered into
advertising and mergers it had built up a in 1962 which stipulated that promotional
market share of some 60 per cent by 1930. expenditure for the period 1.4.62 to 21.3.63
P&G (a US company) entered the UK market should be limited to about 50 per cent of the
in 1930 by the takeover of T. Hedley, a amount spent in the period 1.7.60 to 30.6.61
smaller competitor to Unilever which was in This agreement, however, was not renewed.
financial difficulties. P&G introduced Oxydol The Monopolies Commission condemned
soap powder (its US brand) and by aggressive as operating against the public interest two
marketing gained a 15 per cent market share aspects of the industry’s conduct and
by 1938. A closer balance between Unilever performance.
and P&G developed in the early 1950s with (1) the emphasis on advertising and sales
the introduction by P&G in 1950 of the promotion competition, which the
innovatory synthetic powder, Tide (the Commission concluded had resulted in
product was launched in the USA in 1946). “excessive” selling costs, increased prices
Unilever’s response may have been delayed and the creation of a powerful barrier to
by wartime reductions in detergents research entry;
and it did not introduce a comparable
synthetic powder (Surf) until 1952. (2) the lack of price competition which it
concluded had resulted in “excess” profits
n (in turn, protected by the entry-deterring
effects of advertising and sales
Promotional costs in promotion).
the industry had
The companies claimed that promotional
escalated spending in general was necessary in order to
n sustain a high level of demand for their
products, and this helped them to achieve
The detergents industry was and is highly economies of scale in production and
advertising/promotional intensive. Peak distribution and had kept retailer’s margins at
spending is associated with new product relatively low levels. They did not believe
launches and millions of pounds are spent their promotional spending was “excessive”:
yearly on the “competitive maintenance” of the existence of potential competitors sets a
existing brands. In 1964, Unilever spent a limit on this in that “if their costs were too
total of £8.3 million on advertising and sales high others would come into the market to
promotion (of which £4 million was media sell at lower cost and lower prices”
advertising); P&G’s advertising and sales (paragraph 98a) The companies rejected the
promotion outlay was £8.7 million in 1984 claim that promotional spending per se acted
(including £3.8 million on media advertising). as a major barrier to entry: “New entrants
In terms of the average retail price of a could minimise their costs by entering the
standard pack of detergent advertising and market on a regional basis; or multiple stores
sales promotion accounted for around 23 per could have their own brands of powders made
cent of product price for both companies. up for them, as some of them already do with
Promotional costs in the industry had liquid detergent” (i.e. washing-up liquids,
escalated since the 1950s and Unilever and paragraph 98(b)) The core of their case was
P&G had on occasions felt pre-disposed that new entrants are deterred, not by the
towards controlling them. An agreement necessary outlay on advertising and

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promotion, but by their inability to match the Commission concluded: “we think that the
skills of Unilever and P&G in identifying and expenditures incurred (on advertising and
meeting consumer demand through their promotion) are unnecessarily high and that
existing products and through new product one effect is to keep entrants out of the
innovation. market” (paragraph 105). To reduce price and
The Commission remained unimpressed by profit levels in the industry the Commission
these submissions: “To a considerable extent recommended price cuts and “at least a 40 per
the companies’ arguments hinge upon the cent reduction in selling expenses”
assertion that the existence of potential (paragraph 127).
competitors must restrain both companies
from undertaking wasteful expenditure. We
might have been more impressed by this Advertising as an Entry Facilitator
assertion if it were apparent that this factor In a number of cases the Commission has
was holding down prices, since this would explicitly recognized the pro-competitive role
confirm that there was an active incentive to of advertising. Since 1970 the Commission
minimise costs” (paragraph 103). In the has investigated restrictions on advertising in
Commission’s view this was not the case: various professional services including
profit rates for both companies were high, the stockbrokers, accountants, advocates,
companies were not under any great pressure barristers, medical practitioners, osteopaths,
to minimize costs and were able to pass on civil engineering consultants. The
cost increases to consumers by raising prices. Commission’s general conclusion in these
The high profitability of the companies had in cases was that while the restrictions on
fact been “protected” by advertising and sales advertising laid down by the professions’
promotion. The Commission concluded: “It is ruling trade bodies were designed to protect
difficult to see any reason, other than that the customers and users their effects had been to
terms of entry are too onerous, why this limit competition between established firms
profitable field should, with the exception of and practitioners and impeded the entry of
liquid detergents, have been left largely in the new firms and practitioners.
hands of the two companies. Some of the In Stockbrokers’ Services (1976) the
more obvious potential competitors, such as Commission found that members of the Stock
large chemical manufacturers, are probably Exchange were required to observe various
not deterred by the mere size of the initial rules and regulations, including advertising.
investment required, but they may well feel Stockbrokers were prevented from using
reluctant to participate in – and by certain media (television and radio), while
participating, perhaps, to intensify — the limitations were placed on other forms of
process of competition in promotion advertising (press advertising and circulars
expenditure which appears to prevail in the issued to clients). Prior consent of the Stock
industry” (paragraph 104). The Commission Exchange Council was required to “clear”
recognized the possibility that “own label” advertisements; prior consent to an
retailers might provide (eventually) a advertisement was given subject to fulfilling
powerful antidote but commented “we are certain conditions. A fundamental condition
indeed a little surprised that multiple stores was that it did not advertise individual
which market their own brands of liquid securities. In addition, advertisements were
detergents do not as a rule market their own required to be made in good faith, must not
brands of powders” (paragraph 104). The confuse, mislead or offend, must be capable

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of substantiation, must not attack or discredit Similar sentiments were expressed by the
other firms and institutions directly or by Commission concerning restrictions on
implication. advertising in Medical Practitioners’ Services
(1989) and Osteopaths’ Services (1989). In
n Medical Practitioners’ Services (1989) the
Commission concluded that the General
Prevailing restrictions
Medical Council (GMC) limitations on
acted as a clog advertising constituted a material restriction
on competition of competition and recommended that general
practitioners should be free to advertise
n
subject to certain constraints.
The Commission noted US studies of the
Collectively these restrictions were designed
impact of the relaxation of advertising rules
to protect the interests of clients. The
in various American professions indicating
Commission agreed that there was a case for
that competition had increased leading to cost
continuing to protect investors from
savings and lower prices and improvement in
untruthful and misleading advertisements but
quality of service.
that this could be done within the framework
In Osteopaths’ Services (1989) the
of a more liberal regime towards advertising. Commission concluded that advertising
The Commission’s view was that the restrictions had “specific effects adverse to
prevailing restrictions were over protective the public interest in that they inhibit the
and acted as a clog on competition: “these establishment and development of practices
restrictions as a whole place strict limits upon and, by limiting the information available to
the use of advertising as a form of the consumer, hinder both patients and
competition to obtain business. It can hardly medical practitioners in making an informed
be denied that the use, if they were available, choice of osteopath. We also consider that the
of the forbidden kinds of advertising as a restrictions on advertising limits public
form of competition could be expected to awareness of the profession and thereby
result in some shift of business from one limits both the development of demand for
stockbroker to another” (paragraph 88). The osteopathy and the rate at which the
restrictions had resulted in users being profession could expand” (paragraph 7.34).
deprived of helpful information and had
served to reduce the stimulus to efficiency,
cost-saving and innovation which would Advertising and Other Entry Barriers
otherwise have prevailed in a more open, It is important that the effects of advertising
competitive situation. be looked at alongside other factors in the
The Commission concluded: “they deprive competitive equation as emphasis on
the more efficient firms of something which advertising alone may lead to an over/under-
might help them to expand at the expense of estimation of the potency of competitive
the less efficient, and that, by depriving new forces operating in a market. This, in part, is
entrants and firms which wish to introduce acknowledged by the Commission. In
new methods or new kinds of service of some Breakfast Cereals (1973) the Commission
part of their means of attracting demand, they was sceptical of Kellogg’s claim that the need
discourage both new entry and innovation” to incur heavy advertising and promotion
(paragraph 115). costs and production and marketing expertise

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were not effective barriers to entry since was commended by the Commission for its
there were numerous companies superior efficiency and innovativeness in a
(particularly certain large companies already highly competitive marketplace. It was these
established in adjacent food markets) which factors which underpinned its strong market
either had or could readily acquire the position and made entry more difficult.
resources and expertise necessary: “we “Nestlé has indeed increased its market
accept that this may be so, but it does not share at the expense of own label by offering
follow that such companies are necessarily higher quality and better value for money,
willing to enter the breakfast cereal market” despite higher prices. The increasing success
and while a newcomer may enter the market of its brands, particularly of Nescafé, given
by means of retailers’ own brands as in fact the extent of choice available (over 200
one company (Viota) had done “the present brands, most selling at prices below those of
size of Kellogg (55 per cent market share) Nescafé brands) reflects Nestlé’s success as
and the consequent advantages in marketing a competitor in offering a reliable product at
which it enjoys tend to increase the a quality and price in accordance with
difficulty of new entry and to enable Kellogg consumers preferences” (paragraph 7.66).
to contain the competition from retailers’
own brands by means of advertising and
promotion” (paragraph 81). However, the n
Commission was forced to concede that it
perhaps was not advertising per se that Product uniqueness
represented the major obstacle to entry but is a critical
the need for entrants to come up with factor
innovative new products rather than “me-
too” copycats: “given the cost of advertising
n
and promotion and the risks involved,
companies would generally be unlikely to
attempt to market (except as a retailer’s own While it cannot be denied that advertising
brand) a copy of an existing product. This costs (national launches typically cost
means that a potential new entrant probably upwards of £5 million) might act as some
needs to find an acceptable new product” deterrent to entry, a more formidable
(paragraph 88). obstacle is represented by the need to offer
A similar perspective of the entry issue innovative products. Both the entry of
was taken by the Commission in its recent General Foods and Brooke Bond into the
Soluble Coffee report (1991). Nestlé mass market (other entrants have chosen
(“Nescafé”, etc.), the pioneer of instant limited market niches) were facilitated by
coffee in the UK, held a 47 per cent market the “deep pocket” ability to finance initial
share in 1989 and had successfully entry expenses, including advertising.
maintained its market leadership in face of However, their subsequent failure to
strong new entry competition from General undermine Nestlé’s market position despite
Foods (“Maxwell House”, etc. – 18 per cent higher advertising-sales ratios indicates that
market share), Brooke Bond (“Red it is product quality and consumers’
Mountain”, etc. – 6 per cent market share) perceptions of the “value for money”
and a multitude of “own label” brands provided by a brand which represents the
(combined 24 per cent market share). Nestlé core competitive advantage in this market.

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By the same token, the removal of various willingness to repeat purchase it. Thus, slick
restrictions on advertising as recommended advertising may induce some buyers to
in the professional services cases cannot be purchase a produce once, but if the product
expected to open the floodgates to new entry, fails to live up to expectations because, for
as the Commission itself conceded. For example, its quality or performance is poor,
example, in the case of Medical Practitioners then existing buyers will defect and adverse
(1989), a key barrier to entry is the need to word-of-mouth publicity will further kill off
obtain professional qualifications and a sales. The same considerations apply in
“licence” to practice from the GMC. Most respect of new product launches.
general practitioners (GPs) establish
themselves as GPs in the National Health n
Service (NHS) after holding assistant posts Advertising is
either by joining an existing practice or, less an important adjunct to a
frequently, by taking over a vacant practice. brand’s launch
Very few GPs are in a position to set up a new
practice: “In these circumstances, the n
advertising restrictions are likely to have little
effect on the ability of the vast majority of Although conventional economic analysis
NHS practitioners to establish themselves in suggests that advertising acts as a barrier of
practice” (paragraph 8.18). Ergo, removal of entry, in that entrants with unknown brands
these restrictions is unlikely to bring about are at a disadvantage compared to established
significant new entry. Likewise, in the case brands (and entrants are thus forced to spend
of Stockbrokers’ Services (1976) the more on advertising for each sale gained) the
real barrier to entry to entrants (possessing
Commission noted: “With regard to new
adequate financial resources to finance
entry to practice as a stockbroker, the number
advertising spend) is the need to come up
of firms has been diminishing over the years
with an innovative product. Studies have
and the tendency is for newly admitted
shown that successful new brands are
members to join existing firms rather than set
typically “more distinctive/novel/superior” in
up new firms. We do not think either the past
comparison to established brands, i.e. product
or present advertising rules have contributed
uniqueness is a critical factor. In this context,
materially to this situation” (paragraph 120).
advertising is an important adjunct to a
Again, the removal of advertising restrictions brand’s launch, serving to act as an “entry
was not expected to change the competitive facilitator” by bringing the brand to the
situation radically. attention of the buying public.
Finally, then it is important to consider the
relative effects of all potential barriers to
Conclusion entry. While it may well be possible to lower
A key point to emphasize is that the ultimate entry costs by, for example limiting firms
“success” of advertising in stimulating total expenditure on advertising and
demand cannot be divorced from the intrinsic promotion (as recommended – but not
qualities and properties of the product itself. implemented – in the house detergent case),
It is these factors which are of crucial significant entry may still fail to materialize if
importance in determining customers’ other structure-conduct variables remain
satisfaction with the product and hence their unfavorable.

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References Soluble Coffee (1991), Monopolies and


Mergers Commission, HMSO, London.
Breakfast Cereals (1973), Monopolies
Commission, HMSO, London. Stockbrokers’ Services (1976), Monopolies and
Mergers Commission, HMSO, London.
George, K.D., Joll, C. and Lynk, E.L. (1992),
Industrial Organization, Routledge, London.
Household Detergents (1966), Monopolies
Commission, HMSO, London.
Medical Practitioners’ Services (1989), Christopher Pass is a Lecturer in Managerial
Monopolies and Mergers Commission,
Economics, and Nicholas Wilson is a
HMSO, London.
Professor of Credit Management, both at the
Osteopaths’ Services (1989), Monopolies and Management Centre, University of Bradford,
Mergers Commission, HMSO, London. Bradford, UK. Brian Sturgess is a Consultant
Porter, M.E. (1985), Competitive Advantage, with Baring Bros, based in London, UK.
Free Press, New York, NY.

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