By Bill Snyder
Rock groups can lose as much as 40% of their potential sales because consumers don’t know enough about them, says the Stanford Business School’s Alan Sorensen. There are lots of crowded markets out there where lack of information skews sales.
STANFORD GRADUATE SCHOOL OF BUSINESS — You won’t see anything written about bands like the Foo Fighters or the Bloodhound Gang in the pages of most academic journals. But a study of music sales by Alan Sorensen of the Stanford Graduate School of Business and Ken Hendricks of the University of Texas at Austin says that pop groups like the two alternative rock bands lose out on as much as 40% of potential sales because consumers don’t get enough information about them.
The study sheds light on the mechanisms of consumer choice in the broader marketplace, and casts doubt on the commonly used assumption in economic modeling, that consumers have complete information. “This work is really about the notion that there are many markets with a glut of products: books, music, iPhone apps, and so on. It’s virtually impossible for consumers to be aware of all of them,” says Sorensen, associate professor of strategic management in the Stanford Graduate School of Business.
The authors note that only a few of those culturally oriented products become profitable, and even among that select group, a small number of entrants claim the lion’s share of total industry profit.
One explanation might be a difference in quality, with people choosing to buy the better products. It may also reflect a lack of information. If consumers are unaware or poorly informed about most products, then demand depends not only on their preferences but also on their knowledge of the market and the process by which they obtain this knowledge.
“In entertainment industries, consumers buy the products they hear about, and they hear about the products that other consumers buy. As a result, a product’s success reinforces itself, causing the distribution of success across products to be more highly concentrated,” Hendricks and Sorensen write in their paper “Information and the Skewness of Music Sales,” published in the Journal of Political Economy, 2009.
The issue has real-world, as well as theoretical importance. If lack of information is a major factor in buyer choice, then it represents a loss to consumers who might buy less popular products if only they knew about them. What’s more, it may affect product variety by tilting investment toward products with mass-market appeal instead of products targeted at narrower niche markets.
The goal of the study was to measure the extent to which music albums lost sales because consumers may not have known about them. To find an answer, the researchers constructed a database of weekly sales totals for a sample of 355 artists between 1993 and 2002. They then looked for the effects of new album releases on sales of previous albums by the same artist. Hendricks and Sorensen call that effect “the backward spillover.”
It turns out that the backward spillover effect is dramatic; lack of information does indeed hurt the sales of artists, particularly those who are not the best known. “On average, for the artists in our sample, the release of the second album increased sales of the first album by 40% (over the 6-month period following the second album’s release),” says Sorensen. Spillover was even larger – nearly 150% – for the artists whose debut album was a flop, but who managed to produce a hit on the second try.
Put another way, “the finding implies that if consumers were more fully informed, sales would have been substantially less skewed. For example, sales of the top artist in our sample would have exceeded the median artist’s sales by a factor of 30 instead of the observed factor of 90,” the paper states.
The effect is illustrated well by two representative examples: sales of albums by the Bloodhound Gang, an alternative rock band from Collegeville, Penn, and the better known Foo Fighters.
In the weeks surrounding the release of second and third albums for both groups, sales of the first increased substantially. In the case of the Bloodhound Gang, sales of the first album were actually higher in the later period than they had been at the time of the initial release, with the spike lasting three years. Later albums also boosted sales of the Foo Fighters initial album, but not as dramatically, probably because the group’s first album was successful in its own right.
Who’s really damaged by the imbalance of information and sales? “Not your brother’s garage band. Making consumers informed won’t change the fact that they stink,” says Sorensen. “The people who suffer most are mid-level artists who are fairly successful. The truth is that an artist who sells tens of thousands of CDs a year is probably pretty good, but not big enough to get on the radio.”
The data used in the study predates the dominance of digital music and internet distribution of albums. The internet gives consumers the chance to get much more information about products before they shop — iTunes, for example, makes it easy to sample music — and they no longer have to rely so heavily on information provided by radio stations or the manner in which albums are displayed in brick and mortar stores.
Sorensen suspects (but doesn’t yet have the data to prove it) that the web has likely reshaped the balance of success in the music industry. He and Hendricks, along with University of Texas researcher Tom Wiseman, are studying models of market demand in which consumers learn about products by observing the decisions of other consumers — which is exactly what happens in online markets.
Also on Stanford Knowledgebase: