The Effects of Retailer and Consumer Response on Optimal Manufacturer Advertising and Trade Promotion Strategies

This research examines how retailer and consumer responses influence a manufacturer's optimal advertising and trade promotion plans. We develop a dynamic optimization model which considers the actions of the manufacturer, retailers, and consumers. The manufacturer attempts to maximize its profits by advertising directly to consumers and offering periodic trade deal discounts to the retailer in the hope that the retailer will in turn "pass through" a retailer promotion to the consumer. We show how the manufacturer's optimal allocation depends on consumer response to advertising, consumer response to retailer promotions, retailer inventory carrying cost, and retailer passthrough behavior. For example, we find that retailer carrying costs and promotion wearout play a central role in constraining expenditures on trade promotions. We predict that as trade promotions are designed to eliminate forward buying, manufacturers will find it in their interest to promote more steeply. We also find a natural tendency for advertising and trade dealing to substitute for each other in an optimal plan.