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An Empirical Analysis of the Optimal Advertising Policy

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  • Dan Horsky

    (University of Rochester)

Abstract

This paper determines an optimal policy for investment in advertising for a firm that wishes to maximize its discounted profits. To that end, an integrated approach consisting of model formulation, empirical investigation, and optimization is carried out. A model of market share response to advertising is formulated as a first-order Markov process, with nonstationary transition probabilities. These probabilities are assumed to be a function of the advertising goodwill accumulated by the firm and its competitors. The model as specified is nonlinear in its parameters, and nonlinear regression techniques are applied to estimate them. It is shown that this nonlinear form offers, via likelihood ratio tests, a unique opportunity for testing the model, and in a resulting empirical test, the model is found to be consistent with the data. Given these empirical findings, an optimal advertising policy is derived by the use of optimal control theory. The managerial implications of the recommended multi-period policy are examined, and the policy's sensitivity to managerial inputs and economic conditions is analyzed and illustrated.

Suggested Citation

  • Dan Horsky, 1977. "An Empirical Analysis of the Optimal Advertising Policy," Management Science, INFORMS, vol. 23(10), pages 1037-1049, June.
    • Handle: RePEc:inm:ormnsc:v:23:y:1977:i:10:p:1037-1049
    DOI: 10.1287/mnsc.23.10.1037
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    Cited by:

    1. Omid Rafieian, 2023. "Optimizing User Engagement Through Adaptive Ad Sequencing," Marketing Science, INFORMS, vol. 42(5), pages 910-933, September.
    2. G. Fruchter & G. M. Erickson & S. Kalish, 2001. "Feedback Competitive Advertising Strategies with a General Objective Function," Journal of Optimization Theory and Applications, Springer, vol. 109(3), pages 601-613, June.
    3. Marshall Freimer & Dan Horsky, 2008. "Try It, You Will Like It—Does Consumer Learning Lead to Competitive Price Promotions?," Marketing Science, INFORMS, vol. 27(5), pages 796-810, 09-10.
    4. Marshall Freimer & Dan Horsky, 2012. "Periodic Advertising Pulsing in a Competitive Market," Marketing Science, INFORMS, vol. 31(4), pages 637-648, July.
    5. Ron N. Borkovsky & Avi Goldfarb & Avery M. Haviv & Sridhar Moorthy, 2017. "Measuring and Understanding Brand Value in a Dynamic Model of Brand Management," Marketing Science, INFORMS, vol. 36(4), pages 471-499, July.
    6. Fruchter, Gila E. & Kalish, Shlomo, 1998. "Dynamic promotional budgeting and media allocation," European Journal of Operational Research, Elsevier, vol. 111(1), pages 15-27, November.
    7. Ali Goli & Simha Mummalaneni & Pradeep K. Chintagunta & Sanjay K. Dhar, 2022. "Show and Sell: Studying the Effects of Branded Cigarette Product Placement in TV Shows on Cigarette Sales," Marketing Science, INFORMS, vol. 41(6), pages 1163-1180, November.
    8. Mesak, Hani I. & Calloway, James A., 1995. "A pulsing model of advertising competition: A game theoretic approach, part B -- Empirical application and findings," European Journal of Operational Research, Elsevier, vol. 86(3), pages 422-433, November.
    9. Hauser, John R. & Wisniewski, Kenneth J., 1981. "Application, predictive test, and strategy implications for a dynamic model of consumer response to marketing," Working papers 1244-81., Massachusetts Institute of Technology (MIT), Sloan School of Management.
    10. Frank M. Bass & Anand Krishnamoorthy & Ashutosh Prasad & Suresh P. Sethi, 2005. "Generic and Brand Advertising Strategies in a Dynamic Duopoly," Marketing Science, INFORMS, vol. 24(4), pages 556-568, February.
    11. Chaolin Yang & Liang Guo & Sean X. Zhou, 2022. "Customer Satisfaction, Advertising Competition, and Platform Performance," Production and Operations Management, Production and Operations Management Society, vol. 31(4), pages 1576-1594, April.
    12. Mesak, Hani I. & Ellis, T. Selwyn, 2009. "On the superiority of pulsing under a concave advertising market potential function," European Journal of Operational Research, Elsevier, vol. 194(2), pages 608-627, April.
    13. Mesak, Hani I. & Calloway, James A., 1995. "A pulsing model of advertising competition: A game theoretic approach, part A -- Theoretical foundation," European Journal of Operational Research, Elsevier, vol. 86(2), pages 231-248, October.

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