Strategic Management Journal

Strat. Mgmt. J. (2012)

Published online EarlyView in Wiley Online Library (wileyonlinelibrary.com) DOI: 10.1002/smj.2017
Received 10 June 2010; Final revision received 21 August 2012

THREAT OF ENTRY, ASYMMETRIC INFORMATION,

AND PRICING
ROBERT C. SEAMANS*
Stern School of Business, New York University, New York, New York, U.S.A.

This paper examines the impact of asymmetric information on incumbent firms’ propensity to
engage in limit pricing when faced with threat of entry. I draw from information economics to
argue that incumbents will use price to respond ex ante to entry in situations characterized
by asymmetric information. I suggest two situations in which asymmetric information can
arise: when potential entrants are from outside the primary industry and when incumbent firms
are members of R&D consortia. I then study pricing in the U.S. cable TV industry to show
that pricing patterns of incumbent cable TV systems are consistent with limit pricing when
the relationship between the incumbent and potential entrant is characterized by asymmetric
information. Copyright  2012 John Wiley & Sons, Ltd.

INTRODUCTION research and development (R&D) investment and

Given the potentially disruptive nature of entrants,
one should expect that incumbents will not sit idly
by as their markets are threatened, but will instead
respond quickly and forcefully to potential entry. A
well developed literature has broadened our under-
standing of entry responses (e.g., Lieberman, 1987,
1989; Geroski, 1995; Helfat and Lieberman, 2002;
Simon, 2005; McCann and Vroom, 2010). How-
ever, despite the seeming importance of the incum-
bent’s ex ante actions in response to potential
entrants, most literature on the interaction between
entrants and incumbents focuses on ex post interac-
tion. Faced with potential entry, the incumbent has
a host of entry deterrence mechanisms available
including excess capacity, increased advertising,
Keywords: entry; information economics; price; incum-
bent response; cable TV
∗
Correspondence to: Robert C. Seamans, Management Depart-
ment, NYU Stern School of Business, 44 West 4th Street, Suite
7-58, New York, NY 10 012, U.S.A.
E-mail: rseamans@stern.nyu.edu
limit pricing (Smiley, 1988). In fact, surveys show
that incumbents do use a number of these mech-
anisms, including limit pricing (Smiley, 1988;
Singh, Utton, and Waterson, 1998).
A limit pricing strategy is one in which the
incumbent firm uses low prices to signal its low
costs to a potential entrant (Bain, 1949). If the sig-
nal is effective, the potential entrant realizes that
the incumbent will be able to price the entrant
out of the market if it were to enter. In a notable
paper by Milgrom and Roberts (1982: 446) the
authors show that this strategy works only when
the entrant does not know the incumbent’s actual
costs. They formalize this intuition with a model,
and describe the condition in which the entrant
does not know the incumbent’s costs as one char-
acterized by ‘imperfect information’ also referred
to as asymmetric or ‘asymmetrical information’
(Akerlof, 1970: 490), which is defined as the sit-
uation in which one of the parties to a transaction
holds superior or more information than the other.
Despite the importance of this condition, with the

Copyright  2012 John Wiley & Sons, Ltd.

R.C. Seamans
exception of an experimental study by Cooper,
Garvin, and Kagel (1997), no prior empirical study
on limit pricing has examined the role of asym-
metric information. One goal of this study is to
show that, consistent with Milgrom and Roberts
(1982), incumbents are more likely to use limit
pricing in situations characterized by asymmetric
information.
In order to accomplish this goal, I study how
incumbent cable TV systems use prices in response
to entry threats. The data analyses use panel data
from 2006–2009 that matches information on pric-
ing, system characteristics, and location for incum-
bent cable TV systems to data on the location of
potential cable and telecom entrants. In the cable
TV industry, economies of scale make it cheaper
for an entrant to build off an existing system in
one market to enter an adjacent market. Thus, the
probability of entry into the incumbent’s market
increases with the geographic proximity to a poten-
tial entrant. I take advantage of this institutional
feature to identify changes in threat of entry from
variation in the proximity to potential entrants over
time. The identification is aided by tests devel-
oped by Ellison and Ellison (2011) that argue that
an entry deterring response can be inferred when
the incumbent’s price is a nonmonotonic U-shaped
function of the probability of entry. One of the
notable features of this study is its use of panel data
to focus on the incumbent’s response to changes
in the threat of entry over time. The panel data
allows the use of fixed effects to rule out plausible
alternative explanations.
Variation in information asymmetry arises from
variation in types of entrants and incumbents.
Potential entrants are divided into two mutu-
ally exclusive categories: cable entrants, which
come from within the cable industry, and telecom
entrants, which come from outside the cable indus-
try. I draw from corporate strategy research that
identifies the presence of asymmetric information
from cross-industry differences (e.g., Capron and
Shen, 2007; Reuer and Ragozzino, 2008) to argue
that potential telecom entrants are more likely
than potential cable entrants to have asymmetric
information about incumbent firm costs. Incum-
bent types vary by membership in CableLabs, an
exclusive R&D consortium that disseminates tech-
nical knowledge to its members. Those firms that
are CableLabs members have proprietary access
to new technology. I draw from information eco-
nomics to first argue that potential entrants may be
Copyright  2012 John Wiley & Sons, Ltd.
at an informational disadvantage when the incum-
bent has access to proprietary technology from
CableLabs. If this is the case, incumbent members
of CableLabs may engage in limit pricing. How-
ever, membership in CableLabs is an informative
signal that may reduce asymmetric information
with the potential entrant. Hence, I also develop
the counterargument that members of CableLabs
are less likely to use limit pricing. The results indi-
cate that being a nonmember of CableLabs and
facing a telecom entrant are both necessary condi-
tions for the use of limit pricing. Thus, even though
membership in an exclusive R&D consortium may
provide proprietary access to new technology, it is
not a sufficient condition to engage in limit pric-
ing as the membership provides other informative
signals to the potential entrant.
This study contributes to existing literature in
several ways. First, it demonstrates that incum-
bent firms engage in limit pricing when asym-
metric information is present. Second, it suggests
two conditions under which asymmetric informa-
tion arises: when a potential entrant is from another
industry and when an incumbent firm has access to
proprietary knowledge. Third, it adds to the empir-
ical literature on entry deterrence by providing
evidence that firms use limit pricing in response
to threat of entry. Finally, the study focuses on
ex ante responses to the threat of entry, whereas
most existing literature focuses instead on ex post
responses.
THEORETICAL AND EMPIRICAL
BACKGROUND
The advent of information economics in the 1970s
introduced the idea that agents may have access
to different information. The seminal paper by
Akerlof (1970) features a model in which the
seller has private information about a used car that
the buyer does not. Due to asymmetric informa-
tion, trade between the buyer and seller breaks
down unless the seller can credibly communi-
cate information about the car to the buyer. In
Akerlof’s model, as is the case in most infor-
mation economics models, the challenge is for
the parties to overcome asymmetric information
and engage in trade. Information economics has
helped explain firm interactions in many settings
including corporate strategy and joint R&D. For
example, industry relatedness (Capron and Shen,
Strat. Mgmt. J. (2012)
DOI: 10.1002/smj
 Threat of Entry, Asymmetric Information, and Pricing
2007) and geographic proximity (Ragozzino and
Reuer, 2011) have been shown to reduce asymmet-
ric information and thereby increase the probabil-
ity of merger or acquisition. Cooperative research
arrangements, such as R&D consortia, provide
firms with a mechanism to reduce asymmetric
information about innovations (Katz, 1986) and
internalize each other’s spillovers from research
(Spence, 1984).1
Information economics had a large impact on
the theoretical development of limit pricing. Mil-
grom and Roberts (1982) incorporate information
into a game theoretic model to formalize Bain’s
(1949) idea about limit pricing and show that under
complete information, limit pricing cannot be an
equilibrium outcome because the potential entrant
will not be fooled into thinking the incumbent’s
costs are lower. Instead, limit pricing is an equi-
librium outcome only when the potential entrant
has limited information about the incumbent’s pro-
duction costs. Their two-period model assumes the
potential entrant knows its own costs, but not the
incumbent’s costs. Under such a setup, the incum-
bent can use low price to signal that it has low cost
to a potential entrant. The potential entrant then
fears that if it enters the market the incumbent will
be able to price so low as to make entry unprof-
itable. As a result, the potential entrant will not
enter (or at least will be less likely to enter). The
incumbent will use low price to send the low cost
signal provided that profits under monopoly using
low price are greater than profits under duopoly.
The basic model developed by Milgrom and
Roberts (1982) has been extended in several ways.
McGahan (1992) provides a theoretical model of
entry deterrence in which the entrant has perfect
information about the incumbent’s costs, but asym-
metric information about market demand. Exten-
sions by Linnemer (2004) and Bagwell (2007)
allow for the use of additional mechanisms such
as advertising in addition to limit pricing. Other
extensions investigate the dynamics of limit pric-
ing over time in an effort to understand how
incumbents maintain their informational advan-
tage over potential entrants through repeated play
(LeBlanc, 1992; Kaya, 2009; Toxvaerd, 2010).
Empirical evidence of the use of limit pricing
is limited. Hannan (1979) studies passbook sav-
ings rates in Pennsylvania banking markets and
1
For more detailed reviews of information economics, see
Stiglitz (2000) and Riley (2001).
Copyright  2012 John Wiley & Sons, Ltd.
shows that incumbent banks increase rates paid
to banking customers as the number of potential
entrants increases. Masson and Shaanan (1986)
use a structural model to provide evidence that
excess capacity and price-cost margins are used
strategically across 26 industries. Kadiyali (1996)
conducts a case study of Kodak and provides evi-
dence consistent with Kodak’s use of limit pric-
ing in the photographic film industry. Cooper and
colleagues (1997) study limit pricing in a lab set-
ting, which allows the authors to create conditions
with asymmetric information, and find support for
the theoretical predictions in Milgrom and Roberts
(1982). Savage and Wirth (2005) study cable TV
pricing in the presence of potential entrants using
a probit model of observed entry decisions as a
function of market characteristics to create prob-
abilities of future entry events. These probabili-
ties are used to proxy for potential competition
in a simultaneous equation model that shows that
potential competition has no effect on price. Gools-
bee and Syverson (2008) show that incumbent air-
lines dropped prices in response to increased threat
of entry from Southwest. They provide evidence
that the low prices allow incumbent airlines to
increase traffic on threatened routes, thereby creat-
ing customer lock-in via loyalty programs before
Southwest enters and establishes its own loyalty
program. In their setting, low price is used to deter
entry indirectly by raising Southwest’s fixed cost
of entry.
Masson and Shaanan (1986) point out that asym-
metric information is a necessary precondition for
limit pricing, but do not exploit variation in asym-
metric information. One potential reason for this
gap in the literature is that Milgrom and Roberts
(1982) do not elaborate on the likely source of
asymmetric information. Hence, this article adds to
prior literature by proposing two potential sources
of asymmetric information. Second, it provides an
empirical study of limit pricing that explicitly con-
siders the role played by asymmetric information.
As such, it complements Cooper and colleagues
(1997) by providing empirical evidence outside
of a laboratory setting. In addition, whereas most
of the prior empirical literature relies on cross-
sectional data to test for limit pricing, the tests
presented in this paper rely on panel data.
Limit pricing is an example of ex ante entry
deterrence; other types of ex ante entry deter-
rence include excess capacity and early technology
adoption. A notable feature of the ex ante entry
Strat. Mgmt. J. (2012)
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R.C. Seamans
deterrence literature is the relatively small number
of empirical papers, relative to the large number
of theoretical papers (Wilson, 1992). Lieberman
(1987, 1989) finds no evidence that chemical pro-
cessing firms use excess capacity or cumulative
production leads to deter entry, whereas Hamil-
ton and McManus (2009) show that early adoption
of new technology by infertility treatment centers
delays competitor entry. Ghemawat (1993) shows
that steel mill entrants adopt new technology to
deter incumbent entry into new market niches.
Hence, this article contributes more broadly by
adding to the empirical literature on ex ante entry
deterrence.
Ellison and Ellison (2011) provide a tractable
model of ex ante entry deterrence, which they
apply to the pharmaceutical industry. The key
insight from their model is that incentives to deter
entry will vary nonmonotonically with market size.
The prediction from their model is that the incum-
bent will engage in entry deterring activity in
markets of an intermediate size, rather than large
or small markets. The intuition behind this result
is that entrants will enter large markets anyway,
and it is unlikely that small markets will face any
entry, therefore investing in entry deterring activity
in these markets will not affect the likely out-
comes. Instead, when the potential entrant is ‘on
the fence’ about entering a market, its decision
is more likely to be swayed by the incumbent’s
action. Market size is the relevant focus given the
institutional features of the pharmaceutical indus-
try studied by Ellison and Ellison (2011), but other
industries might require different proxies for threat
of entry.
In a closely related paper, Dafny (2005) applies
the techniques from an earlier version of the work
by Ellison and Ellison (2011) to local surgical pro-
cedure markets.2 Dafny argues that when incum-
bents increase surgical procedure volume they
move further down the learning curve of that par-
ticular surgery, thereby creating entry barriers that
are difficult for potential entrants to overcome.
She furthermore argues that potential entrants in
this business come from other hospitals in the sur-
rounding area that do not yet have experience in
the given surgical procedure. Dafny shows that
incumbents’ surgical procedure volume varies non-
monotonically with the number of potential entrant
2
The paper by Ellison and Ellison (2011) existed as a working
paper that predated Dafny (2005).
Copyright  2012 John Wiley & Sons, Ltd.
hospitals. Hence, Dafny uses a similar approach
to that in Ellison and Ellison (2011), but uses
a proxy for the probability of entry that is ger-
mane to the surgical procedure context she stud-
ies. Similarly, this paper uses a proxy for the
probability of entry, geographic distance, which
is appropriate for the cable TV context. Hence,
another contribution of this paper is to demon-
strate that the techniques developed in Ellison
and Ellison (2011) can be applied in other set-
tings.
More broadly, this article contributes to exist-
ing literature on strategic responses to entry. A
stylized finding of this literature is that incum-
bent firms respond selectively to entrants (Geroski,
1995). Recent studies highlight that incentives to
respond can vary by characteristics of the incum-
bent, characteristics of the market, or by charac-
teristics of the entrant. Simon (2005) finds that
newer incumbents in the magazine industry cut
prices in response to entry more aggressively than
older incumbents. McCann and Vroom (2010)
find that incumbent firms encourage entry when
potential agglomeration effects in the market are
high. Casadesus-Masanell and Zhu (2010) ana-
lyze how an incumbent firm chooses between
different responses, including changing its busi-
ness model, in response to entry. These and other
studies (e.g., Thomas, 1999) have advanced our
understanding about how and when incumbents
will respond to entry ex post. However, firms that
successfully deter entry through ex ante actions
will have less incentive to respond ex post. Thus,
by describing conditions under which an incum-
bent firm will engage in ex ante actions designed
to deter entry, this article also has important
implications for the study of ex post strategic
responses.
HYPOTHESES
Prior empirical literature on limit pricing yields
mixed results, yet, with the exception of the exper-
imental study by Cooper and collegues (1997),
none of the prior literature explicitly accounts for
asymmetric information. Information is an impor-
tant variable to be included in any study of limit
pricing because variation in asymmetric infor-
mation will determine whether the incumbent is
able to engage in limit pricing or not (Milgrom
and Roberts, 1982). Limit pricing theory gives
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 Threat of Entry, Asymmetric Information, and Pricing
no guidance as to the likely sources of asym-
metric information. In this section, I outline two
potential sources of asymmetric information and
develop hypotheses linking these sources to the
incumbent’s price response.
Entrants can come from a variety of sources. In
the magazine industry studied by Simon (2005),
entry into the incumbent’s market is from maga-
zine publishers who specialize in other markets.
These de alio entrants build capabilities in one
market, which they then apply in a new market.
The stream of literature on pre-entry experience
demonstrates that the likelihood of a firm entering
another industry is increasing in the match between
the firm’s existing capabilities and resources and
those required in the new industry (e.g., Pen-
rose, 1959; Klepper and Simons, 2000; Helfat and
Lieberman, 2002). Success is not guaranteed, how-
ever, because there may be high coordination costs
associated with de alio entry (Rawley, 2010; Zhou,
2011). Information on cost is relatively easy to
obtain if the potential entrant can use its own cost
function to infer the likely cost of supply in the
new market. For example, a hotel chain serving
one geographical market looking to serve another
geographical market can arguably infer costs of
operating a hotel in the latter by observing actions
of similar hotel chains already operating in that
market (McCann and Vroom, 2010). More gen-
erally, potential entrants that undertake a replica-
tion strategy (Helfat and Lieberman, 2002) and are
from the same industry as the incumbent will infer
production costs of the incumbent with relative
ease.
On the other hand, it will be more difficult
to infer the incumbent’s costs if the potential
entrant uses production technology different from
the incumbent firm, as may happen when the
entrant is from another industry. Overcoming the
informational disadvantage may be costly and time
consuming (Coff, 1999), and despite their best
efforts, potential entrants may still have asymmet-
ric information about the incumbent’s production
costs. Indeed, a rich literature in corporate strategy
highlights how asymmetric information increases
as industry relatedness between acquirer and tar-
get firm decreases (e.g., Coff, 1999; Capron and
Shen, 2007; Reuer and Ragozzino, 2008; Lee and
Lieberman, 2010). Given the presence of asym-
metric information when a potential entrant comes
from outside the industry, incumbent firms may be
Copyright  2012 John Wiley & Sons, Ltd.
able to use limit pricing to deter entry. This leads
to the first hypothesis:
Hypothesis 1: Incumbents facing potential entry
by firms outside the industry will be more likely
to engage in limit pricing than incumbents fac-
ing potential entry by firms from inside the
industry.
Asymmetric information about costs may also
be present in situations where the incumbent’s
production technology is a crucial input for its
production function but the extent to which the
production technology reduces costs is unknown.
Information about production costs can be inferred
when information about the technology is easy
to obtain. However, information about production
costs might not be easy to infer when informa-
tion about the production technology is secret or
difficult to obtain. Indeed, a rich discussion in
the information economics literature describes how
regulators struggle to compel firms to reveal costs
(Laffont and Tirole, 1993). Other research shows
that intellectual property rights can deter poten-
tial entrants by excluding key technology, thereby
limiting imitation (Gilbert and Newbery, 1982).
Technology firms often use R&D consortia to
protect intellectual property from diffusion (Sakak-
ibara, 2002; Joshi and Nerkar, 2011). R&D con-
sortia allow member firms to share in R&D costs
(Katz, 1986) and also share information, thereby
internalizing R&D spillovers (Spence, 1984).
Members of R&D consortia benefit from the dis-
covery of cost-reducing technology. Since any
cost reducing technology is proprietary, members
have an informational advantage over nonmem-
bers (Joshi and Nerkar, 2011). This increase in
asymmetric information may allow an incumbent
to engage in limit pricing:
Hypothesis 2a: Incumbents that are members of
R&D consortia will be more likely to engage
in limit pricing than incumbents that are not
members.
While membership in R&D consortia may pro-
vide access to proprietary knowledge, which in
turn may facilitate the use of limit pricing, mem-
bership status may also provide an informative
signal (Stuart, 2000) to the potential entrant. If
an entrant obtains information about the propri-
etary technology used by one member firm, it
Strat. Mgmt. J. (2012)
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R.C. Seamans
effectively gains information about all member
firms. Limiting leakage of member firms’ propri-
etary information may be especially difficult in
technology-intensive industries, which experience
high employee turnover (Saxenian, 1991). Firms
in such industries may be able to learn much
about their competitors through learning-by-hiring
(Song, Almeida, and Wu, 2003) and competitors
can quickly imitate once they have knowledge of a
manufacturing process (Zander and Kogut, 1995).
On the other hand, nonmembers are not at the same
risk of disclosure, and so any preexisting infor-
mation asymmetry between nonmember firms and
potential entrants may persist. Hence, firms that
are nonmembers of R&D consortia may engage in
limit pricing whereas member firms do not. This
idea is formalized in the following hypothesis:
Hypothesis 2b: Incumbents that are nonmem-
bers of R&D consortia will be more likely to
engage in limit pricing than incumbents that are
members.
The first hypothesis studies incumbent response
to different types of potential entrants and the
second set of hypotheses studies how different
types of incumbents respond to potential entrants.
It is also useful to understand the relative impor-
tance of the two conditions. When the entrant is
from another industry, is there sufficient asymmet-
ric information to engage in limit pricing? Does
membership or nonmembership in an R&D con-
sortium provide sufficient asymmetric information
to engage in limit pricing? Is it necessary for
both conditions to be present to provide enough
asymmetric information to engage in limit pricing?
These additional empirical questions are analyzed
in the results section.
EMPIRICAL SETTING
The empirical setting for this research is the U.S.
cable television industry from 2006–2009. The
industry is important to policy makers: it is a
$100+B per year industry in the United States, the
average U.S. adult spends over four hours per day
watching cable TV (Holmes, 2006), and its con-
tent can influence political outcomes (Della Vigna
and Kaplan, 2007). There are also many attractive
features of the cable TV industry that allow for
Copyright  2012 John Wiley & Sons, Ltd.
careful identification of its incumbents and poten-
tial entrants. Cable TV markets are defined by the
geographical boundary of the city in which the
incumbent system is based. This effectively seg-
ments the United States into thousands of nonover-
lapping geographic markets. Historically, a single
incumbent cable TV system served each market.
Following passage of the Telecom Act of 1996,
several private companies known in the industry as
‘overbuilders’ were formed with the explicit pur-
pose of entering and competing with incumbent
cable TV systems. Companies such as RCN and
Knology built their own cable systems; companies
such as AT&T and Verizon created subsidiaries to
use existing telephone infrastructure to offer video
services.
Entrants typically focus on a specific geographic
area and base entry decisions on the proxim-
ity to their existing systems. For example, in its
2005 Annual Report, RCN describes its strategy
to selectively expand its footprint: ‘RCN will con-
tinue to seek opportunities to increase its network
footprint within and adjacent to its existing mar-
ket clusters.’3 Building off the existing footprint
allows the entrant to spread the fixed cost of build-
ing a video delivery platform and take advantage
of economies of scale in customer service, main-
tenance, and repair. Thus, one can measure the
probability of entry into an incumbent’s market by
measuring the distance from an incumbent system
to the edge of the closest cluster of entrants.
Many of the cable entrants were started by vet-
erans of the cable TV industry using technology
similar to incumbent cable TV systems (Shapiro,
2000). The video signal of a typical cable system
travels along a fiber optic backbone to a neigh-
borhood node, and then along coaxial cable from
the node to individual homes. In contrast, tele-
com entrants are subsidiaries of large telecom firms
and their technology is more heterogeneous than
that of cable entrants (FCC, 2006). For example,
after traveling along a fiber optic backbone to a
neighborhood node, the video signal for AT&T’s
U-verse system travels along standard copper tele-
phone lines from the node to individual homes,
whereas the video signal for Verizon’s FiOS sys-
tem continues along fiber optic lines from the node
to individual homes. As a result of the differ-
ent system architecture, AT&T and Verizon rely
3
2005 RCN Annual Report, page six. Available for download:
http://investor.rcn.com/annuals.cfm (6 June 2010).
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 Threat of Entry, Asymmetric Information, and Pricing
on different standards for moving data through
their systems (FCC, 2006; FCC, 2007). The dif-
ferences in technology suggest that to the extent
asymmetric information exists at all it is likely
higher between incumbents and telecom entrants
than between incumbents and cable entrants.
In 1988, incumbent cable system operators
established an R&D consortium called CableLabs
to develop new technologies for cable systems.4
CableLabs is credited with establishing many of
the important standards used by cable operators,
including standards for cable modems, fiber optic
implementation and architecture, and telephony
over the cable system. The standards are dissemi-
nated to members through documents and technical
demonstrations at annual members-only confer-
ences. In order to access documents or attend con-
ferences, members must sign nondisclosure agree-
ments. Cable entrants are not members of Cable-
Labs and non-cable operators, including telecom
entrants, are explicitly denied membership.5
METHODOLOGY AND DATA
Methodology
To assess the two hypotheses, I analyze pricing pat-
terns of incumbent cable TV systems facing threat
of entry. Variation in incumbent and entrant types,
variation in distance to potential entrants, and the
large number of nonoverlapping geographic mar-
kets provides a natural setting for clean tests of the
hypotheses. For Hypothesis 1, I identify the dis-
tances to the closest potential telecom and cable
entrants and then test whether the incumbent is
more likely to engage in limit pricing when fac-
ing potential entry from the telecom entrant than
from the cable entrant. For Hypotheses 2a and 2b,
I identify whether an incumbent cable TV firm is a
member of CableLabs or not and then test whether
these firms are more or less likely to engage in
4
The National Cooperative Research Act, passed by Congress in
1984, reduced potential antitrust liabilities of research joint ven-
tures, including R&D consortia such as CabeLabs (Sakakibara,
2002).
5
Per CableLabs’ Web site: ‘CableLabs’ members are exclusively
cable system operators. They do not include competitive network
platforms such as direct broadcast satellite (DBS), telephone
companies delivering video services, electrical utilities deliv-
ering broadband services, multi-channel multipoint distribution
systems (MMDS) or the like.’ From: http://www.cablelabs.com/
about/companies (4 December 2009).
Copyright  2012 John Wiley & Sons, Ltd.
limit pricing as distance to the potential entrant
varies. Finally, in order to understand whether the
presence of either condition is sufficient for limit
pricing or whether both are necessary, I interact
membership in CableLabs with the distances to
closest potential telecom and cable entrants.
Ellison and Ellison (2011) argue that incentives
to deter entry will vary nonmonotonically with the
probability of entry. In the U.S. cable TV context,
the probability of entry increases as distance to the
potential entrant decreases. If the potential entrant
has a low probability of entry into an incumbent’s
market, as might happen if the potential entrant
is in a geographically distant location, then the
incumbent may decide not to use limit pricing
because entry is highly unlikely in any case. As
distance to the potential entrant shrinks, the proba-
bility of entry starts to increase, and the incumbent
may be more likely to engage in limit pricing
because the relative costs of using low price are
increasingly offset by the potential reduction in
the probability of entry. As the probability of entry
increases past a certain point, however, the incum-
bent may become less likely to engage in limit
pricing. The incumbent will be unwilling to forego
some profits by pricing low if, no matter the efforts
expended by the incumbent, the entrant is highly
likely to enter. At the extreme, if entry is certain,
there are no benefits to engaging in limit pricing.
Hence, to the extent that the incumbent engages in
limit pricing, its response will vary nonmonotoni-
cally with distance to the potential entrant.
The methodology proposed by Ellison and Elli-
son (2011) suggests a specification of the following
form:
(1) lnpriceist = β0 + β1
lndistance to potential entrantit
+ β2 lndistance to potential entrantit2 + bx Xist
+ γi + service tiers + yeart + εist (1)
where lnprice ist is the natural log of price for
system i with service tier s at time t, Xist is a vector
of system controls, γi is a system fixed effect,
service tier s is a service tier dummy, and year t
is a year effect. In cable TV industry parlance, a
‘tier’ is a package of channels and sometimes other
services. Lndistance to potential entrant it is the log
of the distance in miles to the closest potential
cable or telecom entrant to system i at time t. The
Strat. Mgmt. J. (2012)
DOI: 10.1002/smj
R.C. Seamans
term lndistance to potential entrant 2it is included
to capture any nonmonotonicity in the pricing
pattern. Signs on the coefficients of β1 < 0 and
β2 > 0 will provide evidence of a nonmonotonic
U-shaped pricing response. In some specifications,
the distances are broken out by telecom and cable
entrant in order to take advantage of variation in
asymmetric information between the two types of
entrant.
Data and variable definition
Dependent variable: price
Price is the dependent variable in all regres-
sions. Price varies by system, service tier, and
year, and is logged following other research on
pricing (e.g., McCann and Vroom [2010], Simon
[2005], Yamawaki [2002]). Data on price and other
cable system characteristics is from Warren Com-
munications’ Cable TV Factbook for 2003 and
2006–2009. The 2003 data is used for a robustness
test described in the results section. The Fact-
book data is the main source of cable TV system
data used in most empirical studies of the industry
(e.g., Goolsbee and Petrin, 2004; Della Vigna and
Kaplan, 2007).
Main independent variables
The main independent variables include distance
to potential entrants, type of potential entrant, and
information on the membership of CableLabs.
Data on the location of potential cable entrants
comes from Warren Communications’ Cable TV
Factbook for 2006–2009. Data on the location and
date of entry of potential telecom entrants comes
from Warren Communications’ Telco/IPTV Fact-
book for March 2010. The Telco/IPTV dataset is
a new dataset and to the best of my knowledge no
other study has used this data. Date of entry, which
is used to construct historical entry patterns, is only
available for about half of the potential telecom
entrants. Hence, two assumptions are made for the
main results. First, the inclusion of entry dates for
only a subset of telecom entrants is random. Sec-
ond, if a telecom entrant enters prior to 2009, it is
not likely to exit before 2009. Robustness checks,
described below, were performed on these assump-
tions. There are 86 potential cable entrants and 901
potential telecom entrants.
The distances from each city in which an incum-
bent system is located to the city in which the
Copyright  2012 John Wiley & Sons, Ltd.
closest potential cable or telecom entrant is located
were found using software that calculates the dis-
tance between zip codes to create the variable dis-
tance to potential entrant it .6 Separate variables for
distance to potential telecom entrant it and distance
to potential cable entrant it have also been created.
Logs of these distances are used in all regressions
to correct for skewness in the data and to be con-
sistent with Ellison and Ellison (2011).
Cablelabs it is a dummy variable indicating
whether the incumbent system is owned by one
of the firms that is a member of CableLabs. This
variable is constructed using data on membership
for 2003, 2006–2009.7
Time-varying control variables
System age it is a continuous variable that measures
the age of system i at time t. System age it controls
for the possibility that younger firms use newer
technology that reduce distribution costs. Homes
passed it is a count of the number of potential
hookups that the incumbent cable system passes
at time t. This variable is included to account
for the idea that systems located in areas of high
population density may be able to trade off lower
prices for higher volume. This variable has been
logged to control for skewness. Percent fiber it is
the ratio of miles of fiber optic cable to total miles
of cable it . This variable is included to account
for changes in cable system technology. Systems
with more fiber optic cables provide higher quality
signals to customers and may be able to charge
more.
The variable dsl providers it measures the aver-
age number of digital subscriber line (DSL)
providers in the county in which system i is based
at time t. DSL provides customers with broadband
Internet access and telephony and hence may be
a substitute for cable TV service. It is important
to include some measure of the number of DSL
providers to control for the possibility that incum-
bents in highly competitive markets are less likely
to respond to entry, as shown by Simon (2005).
DSL data is publicly available from the FCC.8 The
6
Distances were calculated using Spheresoft Zip Code Tools in
Microsoft Excel.
7
The information for 2009 was obtained from http://www.
cablelabs.com/join/companies/, (6 June 2010); historical infor-
mation was obtained from various searches on internetarchive.
com.
8
Data is available for download here: http://www.fcc.gov/wcb/
iatd/comp.html (1 April 2010).
Strat. Mgmt. J. (2012)
DOI: 10.1002/smj
 Threat of Entry, Asymmetric Information, and Pricing
average is created by taking the estimated number
of DSL providers at the zip code level and averag-
ing across all zip codes in the county. Averages at
the county level help control for a reporting issue
with FCC data whereby ranges instead of numbers
are specified for low numbers of DSL providers.9
Certain robustness checks described in the
results section use the variables number of sys-
tems it and two-way capable it . The continuous vari-
able number of systems it counts the number of
systems owned by the parent firm of system i at
time t. This variable has been logged to control for
skewness. Two-way capable it indicates whether the
system has been upgraded to two-way capability at
time t.
Cross-sectional control variables
The main results use system level fixed effects, so
cross-sectional variables are not included. How-
ever, certain robustness checks described below
do not use fixed effects and so additional cross-
sectional variables are included. These include
system-level and county-level variables.
A dummy variable for duopoly i indicates if the
incumbent system is one of two systems in a city.
The duopoly variable is included in robustness
checks to account for the possibility that if there
already exist two systems in the market, the market
is unattractive to potential entrants so the incum-
bent will have less incentive to engage in limit
pricing. The dummy variable municipal utility i
indicates if the incumbent system is based in a city
with a municipal electric utility. These municipal
agencies have been known to enter the video pro-
gramming market to compete against incumbent
systems, and Seamans (2012) shows that incum-
bent systems based in these cities tend to upgrade
their systems to deter city entry. Inclusion of the
municipal utility i controls for the possibility that
the municipal agency may enter, and so the market
may be less attractive to private entrants.
Population per square mile i , per capita income i ,
new house i (the number of new house permits
issued), and percent of population living in a rural i
area account for demand-side effects (Greenstein
and Mazzeo 2006; Mayo and Otsuka, 1991).
County-level demographic variables are from the
9
Results are unchanged in robustness checks that use a dummy
variable indicating a high number of DSL providers instead of
the continuous variable. The results are in the online supplement.
Copyright  2012 John Wiley & Sons, Ltd.
County and City Databook for the year 2000. All
the cross-section results also include dummy vari-
ables for states to control for regional differences
in demand for cable services that are not already
captured by the demographic variables, as well as
to control for differences across states in regula-
tion of cable and telecom services. For example, de
Figueiredo and Edwards (2007) show that variation
in state legislatures affects pricing of unbundled
network elements, which in turn may affect the
strength of competition from telecom firms.
Fixed effects and other dummy variables
The results include fixed effects variables for sys-
tem, year, and service tier and also include dummy
variables for channels. System fixed effects γi con-
trol for unobserved, stable characteristics that vary
at the system level. Since each system is spe-
cific to a city, the system fixed effects also control
for local market characteristics. Year effects year t
control for unobserved time-varying factors such
as macroeconomic trends in the economy. Indi-
cators for 16 tiers service tier s are included in
all regressions.10 Indicators for 283 channels are
included in all regressions.11 The inclusion of ser-
vice and channel dummies in this study captures
any changes in price within a system over time
that result from changes to channel lineups.12 Other
studies that have looked at cable TV system pricing
have focused on only one or two tiers of pricing,
typically the basic service and one premium tier.13
Summary statistics of all variables are pre-
sented in Table 1A.14 The average distance from
10
There were an additional 17 tiers that were used infrequently
across the years of data and dropped; dropping the extra service
tiers resulted in reducing the total number of observations by
less than one percent.
11
There were over 1,600 different channels in the original
dataset, but most of these channels were rarely used outside
of a few systems. Channels were dropped if there were fewer
than 200 observations of that channel. This resulted in dropping
over 1,300 channels, but only about two percent of the total
observations. Note that it is important to include tier indicators
because of the many channels that were dropped.
12
Channel lineups for a tier may be arranged differently across
systems. For example, in 2006 the Cartoon Network appears
with 32 other channels in the basic tier in Stockton, CA,
with 43 other channels in the expanded basic tier in Alameda,
CA, and with 67 other channels in the digital basic tier in
Bakersfield, CA.
13
For examples, see Chipty (2001) and Emmons and Prager
(1997).
14
Correlations between variables are included in the online
supplement.
Strat. Mgmt. J. (2012)
DOI: 10.1002/smj
R.C. Seamans

Table 1A. Summary statistics

Distribution
Mean SD Min Max 10th 50th 90th

1 Price 16.17 10.85 0.00 103.95 7.00 12.00 32.99

2 Distance to potential entrant 101.34 99.10 0.00 803.70 3.17 78.81 238.19
3 Dist. to potential telecom entrant 189.68 201.20 0.00 1000.00 3.87 113.26 514.54
4 Dist. to potential cable entrant 155.95 112.01 0.00 1000.00 33.08 137.09 297.29
5 CableLabs 0.48 0.50 0.00 1.00 0.00 0.00 1.00
6 System age 32.54 10.53 3.00 61.00 21.00 29.00 48.00
7 Homes passed 28043 115327 0.00 4100000 320 2845 52525
8 Percent fiber 0.04 0.12 0.00 1.00 0.00 0.00 0.17
9 DSL providers 5.26 1.80 0.86 15.80 3.06 5.14 7.50
10 Duopoly 0.04 0.20 0.00 1.00 0.00 0.00 0.00
11 Municipal utility 0.20 0.40 0.00 1.00 0.00 0.00 1.00
12 Population per square mile 234.64 1494.13 0.30 66835 6.50 49.80 392.60
13 Income 33282 7384 15439 74586 25109 32250 42260
14 New house 181.74 845.72 0.00 10245 0.00 0.00 247.00
15 Rural 5.69 6.34 0.00 47.00 0.30 3.20 15.00
16 Two-way capable 0.79 0.41 0.00 1.00 0.00 1.00 1.00
17 No. systems owned by firm 273.41 294.90 1.00 995.00 2.00 128.00 749.00

Number of observations: 41,280; number of systems: 3,202.

Table 1B. Summary statistics by incumbent type

Type of firm: (a) Non-CableLabs (b) CableLabs

Mean SD Mean SD

1 Price 16.04 10.03 16.30 11.66

2 Distance to potential entrant 103.06 94.52 99.56 103.75
3 Dist. to potential telecom entrant 191.37 200.06 187.71 202.44
4 Dist. to potential cable entrant 161.41 103.99 150.17 119.73
5 CableLabs 0.00 0.00 1.00 0.00
6 System age 30.66 10.64 34.61 10.01
7 Homes passed 4987 17372 52914 161849
8 Percent fiber 0.04 0.12 0.05 0.11
9 DSL providers 5.10 1.71 5.44 1.88
10 Duopoly 0.02 0.13 0.07 0.25
11 Municipal utility 0.19 0.39 0.20 0.40
12 Population per square mile 83.14 219.60 398.38 2132.75
13 Income 31679 6479 35009 7899
14 New house 81.47 581.23 290.30 1049.97
15 Rural 7.04 6.91 4.24 5.28
16 Two-way capable 0.72 0.45 0.86 0.35
17 No. systems owned by firm 107.90 177.54 453.04 291.70

(a) Number of observations: 21,451; number of systems: 1,884.

(b) Number of observations: 19,829; number of systems: 1,708.

an incumbent cable system to the closest potential
entrant is 101 miles. Forty-eight percent of the
incumbent cable systems in the sample are mem-
bers of CableLabs. Table 1B splits the summary
statistics by membership in CableLabs. The aver-
age distance from an incumbent to the closest
Copyright  2012 John Wiley & Sons, Ltd.
potential entrant is about the same for nonmembers
and members of CableLabs (103 miles and 100
miles, respectively). Comparison of other variables
suggests that members of CableLabs have larger
systems and have parent firms that own many
other systems. Robustness tests described below
Strat. Mgmt. J. (2012)
DOI: 10.1002/smj
 Threat of Entry, Asymmetric Information, and Pricing
Table 2. Demographic characteristics of entrant location, by type
Type of firm: (a) Cable entrants
Mean SD Min
Population per square mile 618 2031 14
Income 34279 3658 28765
New house 723 1564 0.00
Rural 5.97 9.23 0.00
(a) Number of potential cable entrants: 86.
(b) Number of potential telecom entrants: 901.
investigate the extent to which these differences
drive results.
Demographic characteristics of the location of
potential entrants are presented in Table 2. Tele-
com entrants appear to be located in more pop-
ulated, higher income areas than cable entrants.
Robustness tests described below investigate the
extent to which demographic differences across
incumbent cable systems drive results.
RESULTS
Main results
This section presents results of ordinary least
squares regressions on the log of price, as described
in Equation (1), with modifications as noted.
Robust standard errors are clustered at the system
level to account for any autocorrelation in the data
(Bertrand, Duflo, and Mullainathan, 2004).
Table 3 presents the main results. Column 1 of
Table 3 includes only the control variables; coef-
ficients on channel, service tier, system, and year
fixed effects are suppressed for presentation pur-
poses. The specification presented in Column 2
follows the model described in Equation (1) by
focusing on the distance to the closest potential
entrant of any type. The coefficient on lndistance
to potential entrant it is negative and significant and
the coefficient on lndistance to potential entrant 2it
is positive and significant. The sign and signifi-
cance of these coefficients indicate that incumbent
systems engage in nonmonotonic U-shaped pricing
when facing potential entry, a result that is con-
sistent with limit pricing. Column 2 includes no
information about the likely source of asymmetric
information between the incumbent and poten-
tial entrant. The results in the remaining columns
Copyright  2012 John Wiley & Sons, Ltd.
(b) Telecom entrants
Max Mean SD Min Max
16526 1224 1473 9 12957
43405 45935 11569 21518 74586
6353 1323 2116 0.00 7808
26 0.73 1.28 0.00 14
attempt to further understand the source of asym-
metric information so as to better understand the
conditions under which incumbents engage in limit
pricing.
I first examine the extent to which variation in
entrant type explains when incumbents engage in
limit pricing. To test Hypothesis 1, I first sepa-
rately consider the distances to each type of poten-
tial entrant before including both in order to rule
out that colinearity between the variables drives
results.15 Column 3 follows the model described
in Eequation (1), but specifically considers the
distance to the closest potential telecom entrant.
The coefficient on lndistance to potential telecom
entrant it is negative and significant and the coef-
ficient on lndistance to potential telecom entrant 2it
is positive and significant. The sign and signifi-
cance of these coefficients provide evidence that
incumbent firms facing potential telecom entrants
are likely to engage in limit pricing. In Col-
umn 4, the coefficient on lndistance to potential
cable entrant it is negative but insignificant and
the coefficient on lndistance to potential cable
entrant 2it is positive but insignificant. These coef-
ficients provide no evidence that incumbent firms
facing potential cable entrants engage in limit pric-
ing. The results in Column 5 include distances to
both types of potential entrants and confirm the
results from the prior two columns. The results in
Columns 3–5 provide strong evidence in support
of Hypothesis 1.
Next, I examine the extent to which variation in
incumbent type explains when the incumbent will
engage in limit pricing. In order to test Hypotheses
2A and 2B, Column 6 adds interactions between
15
As reported in the online supplement, the correlation between
the distance to potential telecom entrant and distance to potential
cable entrant is 0.30.
Strat. Mgmt. J. (2012)
DOI: 10.1002/smj
 Table 3. Main results
R.C. Seamans

Dependent variable: InPrice (OLS models)

(1) (2) (3) (4) (5) (6) (7)

InDistance to potential entrant −0.0235∗∗ −0.0470∗∗∗

[0.0103] [0.0168]

Copyright  2012 John Wiley & Sons, Ltd.

InDistance to potential entrant2 0.0031∗∗ 0.0082∗∗∗
[0.0015] [0.0023]
InDistance to potential telecom entrant −0.0337∗∗∗ −0.0343∗∗∗ −0.0485∗∗∗
[0.0123] [0.0123] [0.0178]
InDistance to potential telecom entrant2 0.0043∗∗∗ 0.0044∗∗∗ 0.0079∗∗∗
[0.0016] [0.0016] [0.0023]
InDistance to potential cable entrant −0.0080 −0.0066 −0.0238
[0.0120] [0.0120] [0.0217]
InDistance to potential cable entrant2 0.0008 0.0005 0.0027
[0.0015] [0.0015] [0.0026]
Cablelabs∗ InDist to potential entrant 0.0439∗∗
[0.0219]
Cablelabs∗ InDist to potential entrant2 −0.0098∗∗∗
[0.0032]
Cablelabs∗ InDist. to potential telecom entrant 0.0304
[0.0221]
Cablelabs∗ InDist. to potential telecom entrant2 −0.0073∗∗∗
[0.0028]
Cablelabs∗ InDist. to potential cable entrant 0.0268
[0.0269]
Cablelabs∗ InDist. to potential cable entrant2 −0.0035
[0.0034]
Cablelabs 0.0109 0.0099 0.0109 0.0109 0.0110 0.0084 −0.0118
[0.0142] [0.0143] [0.0143] [0.0142] [0.0142] [0.0380] [0.0711]
System age −0.6251∗∗∗ −0.6211∗∗∗ −0.6101∗∗∗ −0.6237∗∗∗ −0.6071∗∗∗ −0.5691∗∗ −0.4802∗∗
[0.2286] [0.2285] [0.2291] [0.2285] [0.2290] [0.2292] [0.2317]
Homes passed −0.0089 −0.0089 −0.0083 −0.0090 −0.0083 −0.0094 −0.0086
[0.0162] [0.0161] [0.0162] [0.0162] [0.0162] [0.0157] [0.0159]

DOI: 10.1002/smj
Strat. Mgmt. J. (2012)
 Threat of Entry, Asymmetric Information, and Pricing

cablelabs it and the distance variables. The coeffi-

4.6532∗∗∗

0.4281
41,280
[0.0824]

[0.0052]

[0.8327]

3,202
cient on lndistance to potential entrant it is negative

YES
YES
YES
YES
−0.0041
0.0323
and significant and the coefficient on lndistance
to potential entrant 2it is positive and significant.
Hence, nonmembers of Cablelabs appear to engage
in limit pricing, providing support for Hypothesis
2b. The coefficient on the interaction cablelabs it *
4.9278∗∗∗

0.4279
41,280
lndistance to potential entrant it is positive and sig-
[0.0831]

[0.0050]

[0.8240]

3,202
YES
YES

YES
YES
−0.0054
0.0285

nificant and the coefficient on the interaction cable-

labs it * lndistance to potential entrant 2it is negative
and significant. These results indicate that mem-
bers of CableLabs do not engage in limit pricing,
and hence there is no support for Hypothesis 2a.16
5.0772∗∗∗

Finally, in Column 7 cablelabs it is interacted

0.4277
41,280
[0.0816]

[0.0052]

[0.8272]

3,202
YES
YES
YES
YES
0.0269

−0.0038

with the variables for distance to potential cable

and telecom entrants. None of the coefficients on
the variables for distance to potential cable entrant
are significant. The coefficient on lndistance to
potential telecom entrant it is negative and sig-
significant at 1%

nificant, the coefficient on lndistance to potential

5.0595∗∗∗

0.4276
41,280
[0.0818]

[0.0051]

[0.8185]

3,202
YES
YES

YES
YES
−0.0052
0.0243

telecom entrant 2it is positive and significant, the

coefficient on cablelabs it * lndistance to potential
telecom entrant it is positive but significant at the
15 percent level only, and the coefficient on cable-
∗∗∗

labs it * lndistance to potential entrant 2it is negative

significant at 5%;

and significant. The results indicate that nonmem-

5.0670∗∗∗

0.4277
41,280
[0.0817]

[0.0051]

[0.8266]

3,202
YES
YES
YES
YES

bers of CableLabs are likely to engage in limit

−0.0039
0.0268

pricing when facing a potential telecom entrant

but not a potential cable entrant, and members of
CableLabs are not likely to engage in limit pric-
∗∗
Robust standard errors in brackets; clustered at system; ∗ significant at 10%;

ing even when facing a potential telecom entrant.17

These results indicate that being a nonmember of
5.1004∗∗∗

0.4276
41,280
[0.0820]

[0.0050]

[0.8247]

CableLabs and facing a telecom entrant are both

3,202
YES

YES
YES
YES
−0.0051
0.0286

necessary conditions for the use of limit pricing.

The results in Table 3 provide support for
Hypothesis 1. In order to better understand how the
incumbent system responds to changes in the threat
5.0437∗∗∗

0.4276
41,280
[0.0818]

[0.0050]

[0.8181]

3,202
YES
YES
YES
YES
−0.0051
0.0239

16
Econometrically, the overall coefficient of Cablelabs mem-
bers is the sum of the baseline coefficient for all firms (without
interactions) and the coefficient of the variables interacted with
Cablelabs. Wald tests are performed on the sum of the inter-
acted and noninteracted coefficients to determine support for
Hypothesis 2a. The p-value on the Wald test lndistance to poten-
tial entrant it + CableLabs*lndistance to potential entrant it = 0
Number of observations
Service tier dummies
System fixed effects

is 0.82 and the p-value on the Wald test lndistance to poten-

Channel dummies

Year fixed effects

Number of systems

tial entrant 2it + CableLabs*lndistance to potential entrant 2it = 0

Controls included:

is 0.41. The null hypotheses that the coefficients equal zero can-
DSL providers

not be rejected in either case.

Percent fiber

17
The p-value on the Wald test lndistance to potential telecom
R-squared

entrant it + CableLabs*lndistance to potential telecom

Constant

entrant it = 0 is 0.23; the p-value on the Wald test lndistance to

potential telecom entrant 2it + CableLabs*lndistance to potential
telecom entrant 2it = 0 is 0.79.

Copyright  2012 John Wiley & Sons, Ltd. Strat. Mgmt. J. (2012)
DOI: 10.1002/smj
R.C. Seamans
of entry, I use the estimated coefficients from Col-
umn 5 to create a graph of the relationship between
price and distance to potential entrant, by potential
entrant type. As depicted in Figure 1, the incum-
bent system has a nonmonotonic U-shaped price
response to the distance to the closest potential
telecom entrant. In contrast, the incumbent system
has a more or less flat price response to the dis-
tance to the closest potential cable entrant. The
figure shows that the minimum of the U-shaped
price response function lies at about 50 miles. For
comparison, the mean distance to a potential tele-
com entrant is about 189 miles (see Table 1A).
The figure illustrates that the incumbent is more
likely to use a low price response when the poten-
tial entrant is located a moderate distance away. If
the potential entrant is located very close by, for
example 10 miles away, the incumbent has less
incentive to price low to send a signal of low cost
because the probability that the potential entrant
will enter is high and any signal sent by the incum-
bent is unlikely to dissuade the potential entrant
from entering. Likewise, if the potential entrant
is located far away, for example 300 miles away,
the incumbent has less incentive to price low to
send a signal of low cost because the probabil-
ity of entry is already low. As indicated by the
coefficients in Column 7, in the case of an incum-
bent facing potential telecom entry the U-shape
presented in Figure 1 will be steeper for a non-
member of CableLabs and shallower for a member
of CableLabs.
Addressing threats to identification
The results presented in Table 3 are consistent with
limit pricing. However, there might be nonstrate-
gic reasons that explain the incumbent system’s
Figure 1. Effect of distance to potential entrant on
incumbent’s price, by entrant type
Copyright  2012 John Wiley & Sons, Ltd.
pricing pattern. This section describes plausible
alternative explanations and robustness tests that
were performed to rule them out.
The main results include system-level fixed
effects to control for any unobserved, stable char-
acteristics that vary at the system level. For exam-
ple, this helps rule out the idea that the results are
due to cross-system variation in demand for dig-
ital broadcast satellite (DBS).18 The system-level
fixed effects also control for fixed attributes of the
cable system itself, such as quality of wires and
other components installed when the system was
built, as well as political and bureaucratic varia-
tion across cities, which might affect the cost and
time involved for a cable system to apply for and
obtain permits to dig up streets and repair dam-
aged equipment or lines. Fixed effects cannot rule
out changes within the system over time. Hence,
system-specific time-varying controls such as sys-
tem age it , homes passed it , percent fiber it and dsl
providers it have been included to rule out likely
explanations for price changes within systems over
time.
One alternative explanation is that the use of
low prices by incumbents owes to incumbents
switching to lower cost technologies, not the use
of a limit pricing strategy. The main results include
the variable percent fiber it to capture any changes
to cable wire quality and control for within-system
technology changes. However, while unlikely, it is
nevertheless possible that a system deploys new
technology that is uncorrelated with the quality of
its cable wires. In order to further rule out this
alternative explanation, the fully interacted model
presented in Table 3 Column 7 is repeated on
the subset of firms that have upgraded to two-
way capable it , another measure of cable system
technology.19 The results are consistent with those
presented in Table 3.20
Another possibility is that larger firms, which
own multiple systems, benefit from economies of
scale in purchasing or producing cable TV content.
These within-firm economies of scale lead to lower
18
By 2003, DBS availability was more or less ubiquitous and
DBS prices were uniform across markets (Crawford,
forthcoming).
19
As indicated in Table 1A, most systems in the sample (79%)
have upgraded to two-way capability, so this indicator variable
cannot be included as a regressor as it would be colinear with
the system fixed effect.
20
The results of all the robustness tests undertaken in this section
are provided in an online supplement to the paper.
Strat. Mgmt. J. (2012)
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 Threat of Entry, Asymmetric Information, and Pricing
costs that might be passed on as lower prices
to customers. Hence, an alternative explanation
would be that incumbent systems owned by large
firms are distributed geographically in such a way
that potential telecom entrants are, on average,
located 50 miles away. In order to rule out this
possibility, the fully interacted model is replicated
after controlling for firm size using the continuous
variable number of systems it , which counts the
number of systems owned by the parent firm of
system i at time t. The results are consistent with
those presented in Table 3.21
The possibility that the effects owe to economies
of scale or market power is further investigated
using several split sample studies. These stud-
ies are performed on four variables of inter-
est including number of systems it , which cap-
tures within-firm economies of scale as described
above, dsl providers it , which captures market com-
petition, homes passed it , which captures within-
system economies of scale, and system density it , a
ratio of number of homes passed it to the miles of
cable it , which also captures within-system
economies of scale. The split sample studies are
operationalized by interacting the independent vari-
ables with a dummy variable indicating that the
variable of interest is above the median. There is
no evidence that the results vary across the split
samples.
The statistics presented in Table 2 highlight that
telecom entrants are more likely to locate in certain
demographic areas than cable entrants. In order to
rule out that this difference is driving the incum-
bent’s differential response to telecom and cable
entrants, additional split sample studies are per-
formed on demographic variables. These studies
are performed on four measures including popu-
lation per square mile i , income i , new house i , and
rural i . There is little evidence that the results vary
across the split samples.
Another alternative explanation is that the results
owe to the construction of the data. Date of entry
was only available for a subset of the telecom
entrants used to create the time-varying distance
to potential entrant variables used in the main
results. However, the location (but not date) is
known for a larger set of telecom entrants in
2009. The results from Table 3 were replicated
on the 2009 cross-sectional data to rule out the
21
Number of systems it is not included in the main results because
of its high correlation (0.58) with cablelabs it .
Copyright  2012 John Wiley & Sons, Ltd.
possibility that the results in Table 3 owe to non-
random data on the date of telecom entry. The
results are consistent with the results presented in
Table 3.22
Finally, in order to add additional support to
the findings presented in Table 3, I use incum-
bent cable system data from 2003 together with
the 2009 location of potential entrants in a fal-
sification test. As in Kalnins, Swaminathan, and
Mitchell (2006), the falsification test helps address
the possibility that the relationships documented in
Table 3 are not causal. The prior regression anal-
yses assume exogeneity of the distance variables.
If so, then the incumbent’s price patterns at time
t are a function of distance to closest potential
entrant at time t. The robustness of this assump-
tion is tested by checking whether price patterns
at time t are a function of distance to potential
entrant at time t + k. In this setup, if coefficients
on the distance to potential entrant variables for
time t + k are significant, it would suggest the
possibility of reverse causality or presence of omit-
ted variables correlated with the future proximity
of potential entrants. The test is operationalized
by running analyses similar to those presented in
Table 3, but using cable system variables from
2003 and potential entrant variables from 2009.
The 2003 date is chosen because it predates entry
by the telecom entrants (although there were cable
entrants present at that point in time) and poten-
tial entrant variables from 2009 are used to take
advantage of the full dataset of potential entrants.
Also, since the test is cross-sectional, system fixed
effects are not used. Instead, demographic and state
dummy variables are included. The results show
that none of the distance variables is significant, as
expected.23 These results lend confidence that the
results from Table 3 are not due to reverse causal-
ity or the presence of omitted variables that might
be correlated with the future proximity of potential
entrants.
22
Variables that are significant at the 10 percent or better level
in the fixed effects models are significant at the 35 percent or
better level in the 2009 cross-section. The one exception is in
the fully interacted model. In this model, the sign on lndistance
to potential telecom entrant it is positive and the coefficient on
lndistance to potential telecom entrant 2it is negative, which are
the reverse of those expected. The confidence intervals around
the coefficients are so large, however, that they include the point
estimates found in Table 3.
23
The results are provided in an online supplement.
Strat. Mgmt. J. (2012)
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R.C. Seamans
DISCUSSION AND CONCLUSION
This study provides evidence that incumbent firms
use nonmonotonic U-shaped pricing when fac-
ing threat of entry. This U-shaped pricing pattern
exists in situations characterized by asymmetric
information, and hence provides empirical evi-
dence consistent with limit pricing. To the best of
my knowledge, this is the first study of limit pric-
ing that explicitly incorporates variation in asym-
metric information outside of an experimental lab-
oratory setting. In addition, this study suggests two
potential sources of asymmetric information: when
the entrant is from outside the incumbent’s indus-
try and when the incumbent is a member of an
R&D consortium.
The analyses focus on the U.S. cable TV indus-
try; not only is the industry important for public
policy but also because its industrial organization
and the wealth of information on the packages
offered to consumers lend itself to a study of
entry deterrence. Incumbents, entrants, and mar-
ket boundaries are readily identified. System fixed
effects rule out many of the obvious alternative
explanations and channel and service tier dummies
control for within-system, time-varying changes in
the cost of cable service. Potential entrants into
the industry, whether cable or telecom, enter by
expanding off their existing footprint. Hence, con-
tinuous measures of threats of entry can be created
by calculating the distance between the incumbent
and closest potential entrant. Finally, the differ-
ences between the types of incumbents and poten-
tial entrants allow a researcher to exploit variation
in information asymmetry.
The study first investigates differences in incum-
bent pricing responses by type of potential entrant
faced. The results provide evidence consistent
with limit pricing when incumbents face poten-
tial telecom entrants but not when incumbents face
potential cable entrants. The study then investi-
gates the differences in pricing response by two
types of incumbent that face potential entry. The
results provide evidence consistent with limit pric-
ing when incumbents are nonmembers of Cable-
Labs, but not when incumbents are members of
CableLabs. This suggests that membership status
provides an informative signal to potential entrants
that precludes the use of limit pricing. Finally, the
results provide evidence that both conditions—
nonmembership in CableLabs and potential tele-
com entry—are necessary in order to provide
Copyright  2012 John Wiley & Sons, Ltd.
enough asymmetric information to engage in limit
pricing.
These findings provide evidence that incum-
bents use price as an ex ante strategic variable.
These results complement the large body of liter-
ature on ex post pricing responses (e.g.: Thomas,
1999; Simon, 2005; McCann and Vroom, 2010) by
demonstrating that firms have a range of options
available to respond to potential and actual entry.
These findings also differ from those of Savage
and Wirth (2005) which finds no evidence that
incumbent cable TV systems use price in response
to potential entry. This study differs from Savage
and Wirth in several ways. First, Savage and Wirth
(2005) focus on the relationship between price
and competition instead of limit pricing. Hence,
their study does not consider situations in which
asymmetric information might arise, whereas the
concept of asymmetric information is central to
this study. Second, Savage and Wirth use results
from a probit model to proxy for potential com-
petition whereas this study uses the distance to
potential entrant as a measure of threat of entry.
Third, this study uses panel data with cable sys-
tem fixed effects to analyze the pricing decisions
of a large sample of cable systems over a period
of time. Identification of the result comes from
within-system variation in distance to the potential
entrant.
This study suggests several areas for future
research. One avenue for future research concerns
the firm’s decision about the type of entry deterring
strategy. Incumbents may use other mechanisms to
respond to potential entrants instead of limit pric-
ing. For example, incumbents may instead invest
in excess capacity, increased advertising, or R&D
investment (Smiley, 1988), or may attempt to pass
regulations prohibiting entry (Dean and Brown,
1995). In another study of the cable TV industry,
Seamans (2012) finds that incumbent systems use
technology upgrades to deter entry by municipal
agencies. Further research is needed to determine
how incumbents choose between entry deterring
mechanisms.24 In addition, the literature on ex post
pricing responses (e.g.: Thomas, 1999; Simon,
2005; McCann and Vroom, 2010) show that some
incumbents choose to wait until after the poten-
tial entrant has actually entered before responding.
Hence, another avenue for future research is to
24
The extent to which incumbents use other deterrence mecha-
nisms biases against finding an effect in this study.
Strat. Mgmt. J. (2012)
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 Threat of Entry, Asymmetric Information, and Pricing
understand the conditions under which the incum-
bent will respond to potential entry with ex ante
actions or wait for entry to occur before respond-
ing with ex post actions.
While the study makes an important contribu-
tion to strategy literature, and suggests promis-
ing avenues for future research, it is important
to acknowledge several caveats. First, while the
results are consistent with limit pricing, it is dif-
ficult to rule out all alternative explanations. The
fixed effects models and wide variety of robustness
checks, including the falsification test, attempt to
rule out plausible alternative explanations. These
numerous attempts, however, are not foolproof.
Second, the setting is limited to a single indus-
try, and it is unclear the extent to which the
results generalize to other industries. Low price
has been observed in response to potential entry
in other industries (Goolsbee and Syverson, 2008;
Hannan, 1979; Masson and Shaanan, 1986). What
has been missing from these studies thus far is
a focus on variation in asymmetric information.
Future research would be well-served to further
investigate whether variation in asymmetric infor-
mation across other industries allows incumbents
to engage in limit pricing as it appears to do in the
cable TV industry. Future research is also needed
to describe additional sources of asymmetric infor-
mation that may give rise to limit pricing.
The study has several implications for managers.
Information asymmetries between firms may pro-
vide opportunities to engage in strategic actions.
In particular, incumbents facing entry by firms
from other industries may be able to use asym-
metric information to engage in limit pricing. R&D
or other industry consortia provide many benefits.
However, one potential cost is that membership in
such consortia provides an informative signal to
potential entrants that may reduce the ability to
engage in limit pricing.
ACKNOWLEDGEMENTS
The author thanks the editor and two referees for
excellent comments and suggestions. The author
also thanks J.P. Eggers, Brian McCann, Anita
McGahan, David Mowery, Gabriel Natividad,
Gonçalo Pacheco de Almeida, Robert Salomon,
Steven Tadelis, Catherine Wolfram and seminar
participants at the Academy of Management
Annual Meetings for thoughtful comments. The
Copyright  2012 John Wiley & Sons, Ltd.
author also gratefully acknowledges financial sup-
port from the NET Institute (www.netinst.org)
and the Kauffman Foundation. All errors are the
responsibility of the author.
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SUPPORTING INFORMATION
Additional supporting information may be found
in the online version of this article:
APPENDIX : General description
Appendix 1: Correlations between variables
Appendix 2: Robustness tests
Appendix 3: Cable characteristic split sample tests
Appendix 4: Demographic split sample tests
Appendix 5: Robustness check on 2009 data
Appendix 6: Falsification test with 2003 data
Please note: Wiley-Blackwell is not responsible
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materials supplied by the authors. Any queries
(other than missing material) should be directed
to the corresponding author for the article.
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