Advertising Strategies in Electronic Retailing: A Differential Games Approach

Abstract

We consider advertising problems under an IT capacity constraint encountered by electronic retailers in a duopolistic setting. While there is a considerable amount of literature on advertising games between firms, introducing an IT capacity constraint fundamentally changes this problem. In the presence of information processing constraints, while advertising may still cause a customer to switch, it may not result in a sale, i.e., the customer may be lost by both firms. This situation could occur when customers have a limited tolerance for processing delays and may leave the website of a firm because of slow response. In such situations, attracting more traffic to a firm’s website (by increasing advertising expenditure) may not generate enough additional revenue to warrant this expenditure. We use a differential game formulation to obtain closed-form solutions for the advertising effort over time in the presence of IT capacity constraints. Based on these solutions, we present several useful managerial insights.