Ratings, Reviews, and the Marketing of New Products

48 Pages Posted: 8 Feb 2019 Last revised: 28 Nov 2020

See all articles by Itay P Fainmesser

Itay P Fainmesser

Johns Hopkins University - Carey Business School

Dominique Olie Lauga

University of Cambridge - Judge Business School

Elie Ofek

Harvard Business School - Marketing Unit

Date Written: January 25, 2019

Abstract

We study how user-generated content (UGC) about new products impacts a firm’s advertising and pricing decisions as well as the effect on profits and market dynamics. We construct a two-period model, where consumers value quality and are heterogeneous in their taste for the new product’s positioning, and examine three information transfer structures across generations: no information (Benchmark); average rating (AR); and the joint distribution of ratings and taste locations (Reviews). First, we show that in the AR case the firm advertises to a smaller set of consumers and prices higher relative to the other cases. This occurs because the firm has an incentive to use advertising strategically to bump up the first-generation average rating in order to increase second-generation quality perceptions. The firm charges a higher first-period price as consumers who are relatively close to the product’s location are advertised to. Second, we find that as more information is transferred across generations there is a greater likelihood that average ratings will exhibit an increasing pattern over time. This happens because with Reviews second-generation consumers are able to base purchase decisions on the product’s positioning in addition to its quality. Interestingly, due to the firm’s narrower advertising strategy in the AR case and the richer UGC in the Reviews case, average ratings will exhibit a reversal over time: higher in the AR case in the first period but higher in the Reviews case in the second period. Third, a firm’s expected profits can exhibit a non-monotonic relationship with respect to the amount of UGC transferred: highest in the AR case if the marginal return on advertising is high (e.g., when advertising is cheap to execute, consumers are insensitive to product fit, or consumers greatly value quality), but highest in the Reviews case when the return on advertising is low. We then examine a setup whereby second-generation consumers become aware of the product through social interaction with first-generation buyers. We find that advertising and social contagion interact - the firm generally has a greater incentive to advertise as homophily increases, i.e., as social interactions occur between consumers who more likely share similar preferences. However, this pattern can reverse with Reviews. The paper discusses several robustness checks and model extensions, and concludes by highlighting the managerial implications of the results.

Keywords: Word-of-Mouth, Online Reviews, Product Ratings, Social Networks, Advertising, Quality, Pricing, User-generated Content

Suggested Citation

Fainmesser, Itay Perah and Lauga, Dominique Olie and Ofek, Elie, Ratings, Reviews, and the Marketing of New Products (January 25, 2019). Johns Hopkins Carey Business School Research Paper No. 19-02, Available at SSRN: https://ssrn.com/abstract=3323827 or http://dx.doi.org/10.2139/ssrn.3323827

Itay Perah Fainmesser (Contact Author)

Johns Hopkins University - Carey Business School ( email )

100 International Drive
Baltimore, MD 21202
United States

HOME PAGE: http://https://sites.google.com/site/itaypfainmesser/home

Dominique Olie Lauga

University of Cambridge - Judge Business School ( email )

Trumpington Street
Cambridge, CB2 1AG
United Kingdom

Elie Ofek

Harvard Business School - Marketing Unit ( email )

Soldiers Field
Boston, MA 02163
United States
617-495-6301 (Phone)
617-496-5853 (Fax)

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