Abstract
Previous empirical studies of the relationship between profitability, market structure, and advertising intensity have consistently found a strong positive relationship between profit rates and advertising intensity. The profit rates used in these studies are based on treating advertising expenditures as a current expense. Much evidence exists that advertising has a long-lasting effect on sales, so that the treatment of advertising as a current expense is inappropriate. In this paper, corrected profit rates are calculated by treating advertising expenditures as an investment in a capital asset. The corrected profit rates are then used in a multivariate regression analysis of the relationship between profitability, market structure, and advertising intensity. No significant relationship between corrected profit rates and advertising intensity is found in the regressions. This finding suggests that the positive relationships between uncorrected profit rates and advertising intensity in previous studies are due solely to the inappropriate expensing of advertising.
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