Friday, March 24, 2017

Game Theory and Branding

1.Brand as a Meet-up Point
The game theorist Thomas Schelling came up with the following game: you and one other person are dropped at different locations in New York City, with no way to communicate. You both pick a time and place to try to meet up. If you both pick the same time and place, then you win!

This sort of game is incredibly common in business. Imagine that, instead of just two people, there are two groups of people. One group all have t-shirts which say “buyer”, and the other group all have t-shirts which say “seller”. Each person wins if they can meet up with someone from the other group - each buyer wants to find a seller, and each seller wants to find a buyer.

One really good solution to this sort of problem is to put up a giant billboard that says “Meet up here!”. In a business context, a strong brand can serve that role. Ebay is a great example - everyone knows that ebay is where you go to sell random stuff to strangers, and everyone knows that ebay is where you go to buy random stuff from strangers. Ebay serves as a meetup place for buyers and sellers, and the ebay brand is the game-theoretic equivalent of a giant billboard which says “Meet up here!”.

Why it’s valuable

This sort of brand value usually involves network effects - the more people meet up under your billboard, the more people will recognize it as a good place to meet up. If only 1% of people go to your billboard to meet up, then it really isn’t a very good place to go. But if 90% of people go to your billboard, then it’s the obvious place to go and you’d be an idiot to go anywhere else. That makes this sort of branding incredibly valuable, since you can effectively lock in a market - once ebay becomes the place to go to buy and sell random stuff, nobody will bother going anywhere else, and ebay can rake in the money.

In particular, that means the company is willing to pay lots of money for their billboard - i.e. maintain the brand through advertising. Especially early on, the company may spend very heavily on advertising in order to jumpstart the network effect.

In general, when you hear about a “network good”, it’s always a good with this sort of underlying coordination game structure. This includes goods from markets (ebay, uber, NASDAQ), to messaging (snapchat, whatsapp), to standards (VHS vs Betamax), to Facebook, the internet, and so on.

When not to do it

Notice that this whole setup depends crucially on the structure of the problem - buyers looking for sellers, in the ebay example. In general, this kind of brand value applies ONLY if the company exists to solve a coordination problem (a game where players win by “coordinating” on the same solution, i.e. meeting up at the same location). If that’s not the central purpose of the company, then this kind of branding does NOT apply.

2.Brand as a Signalling Mechanism

Nobody buys a macbook because of the computer’s inherent value. No, people buy macbooks so that they can be seen in coffee shops wearing scarfs and presumably typing up modern poetry on their macbook.

Ok, I’m exaggerating a little bit. But macbooks don’t sell for $1000 because of the material cost. (And don’t give me that “but I need it for coding!” crap; you’re probably just running the code in a linux VM anyway.)

iOS vs Android. Lexus vs Toyota. Rolex vs Timex. Signalling brands are all about selling the same shit, or even worse shit, for a higher price. Why would anyone buy such products? Because everyone knows they’re higher priced, so they’re a great way of showing off how fabulously wealthy you are.

Alternatively, signalling can show off how morally upstanding you are. Target vs Walmart, Prius vs cars which go vroom, Whole Foods vs Albertson’s… there are no shortage of opportunities to spend a little extra in order to show everyone how concerned you are about poor people, climate change, or poor people impacted by climate change.

Why it’s valuable

In this kind of branding, the brand IS the product. You’re also selling a nominal “product”, but that’s really just a vessel for the brand - just like Abercrombie shirts are often just vessels for the word “Abercrombie”. The shirt itself costs $10, the other $80 are for the brand. The good news is, it costs basically nothing to stick the brand on the shirt (or phone, or watch, or car, or whatever), so profit margins can be outrageously high.

Of course, you’ll need to spend heavily on advertising in order to build the brand identity. It’s not a completely free lunch. Indeed, everyone wants to claim a slice of this pie; this kind of branding will pit you against lots of competition.

When not to do it

Signalling is all about visibility. The whole point of a Rolex is that other people see it, so they can see how wealthy you are. The whole point of a Prius is that other people see it, so they can see how morally upstanding you are. The whole point of a Tesla is that other people see it, so they can see how wealthy and morally upstanding you are.

Corollary: if you’re selling something which is not highly visible, then it’s not a signalling good, so don’t bother with this kind of branding. For example, I’m currently at a mortgage company. Nobody would pay an extra-high rate on their mortgage to show how rich/moral they are.

Now, I can hear all you product managers out there thinking “I know! We’ll make it visible by adding a button to share on social media!”. Ok, please imagine Rolex adding a button to share “I just bought a Rolex!” on facebook. Clearly, anyone who actually shared this would immediately be labelled a desperate plebeian. Not good. That’s why signalling goods need to be inherently visible - whether you’re signalling wealth or morality, you have to pretend you’re not just showing it off.

3.Brand as a Trust Mechanism

In contract law, one of the first lessons a student learns is that contracts come with two rights: the right to sue, and the right to be sued. The latter often comes as a surprise, but it is arguably the more valuable of the two. If a person or company can be sued for screwing me over, then I can trust them not to screw me over (or at least not enough to merit a lawsuit). That sort of trust is necessary to enable business transactions, so it’s actually valuable to be able to be sued.

Practically, however, lawsuits are both expensive and risky. In most cases, a company has considerably more legal resources than a consumer. That means that the right to be sued is, for many companies, more a theoretical than practical threat. And since the ability to be sued means the ability to be trusted, a practical inability to be sued means a practical inability to be trusted. In short, companies with the legal resources to fight a lawsuit are not trusted.

Branding can be used as an alternative mechanism for trust.

How? Well, the right to be sued creates trust because the company can be hurt (via lawsuit) if they do something bad. Similarly, regularly screwing over consumers will ruin a brand, as word inevitably gets around that the company is no good. Consumers intuitively trust brands they’ve heard of (and haven’t heard bad things about), because if those companies screwed their customers, then word probably would have gotten around by now.

Why it’s valuable

The value in this sort of branding depends on how much trust matters. In general, trust is more important for larger-ticket items (cars, houses), online sales (since you can’t hold the item before buying it), and things consumers don’t understand well (lawyers, doctors). All of these cases create strong opportunities to screw a consumer over, so there needs to be a corresponding high level of trust.

When not to do it

Do NOT build a brand if you’re going to screw people over. This seems really obvious, but most US airlines, most cell phone carriers, Comcast, and the entire insurance industry apparently do not get it.

Pharma companies, on the other hand, have this one totally nailed down. I have no idea who makes the last few prescription pills I took.

Aside from having a negative-value brand, it’s worth thinking about whether a brand will have zero-ish trust value. For inexpensive items which consumers understand well (or at least think they understand well), trust probably isn’t a big deal, so this kind of branding isn’t going to add much. For instance, people hopefully trust the security of their google accounts more than the security of their yahoo accounts, but trust isn’t all that central to google’s value - they’re not selling confusing, big ticket items.

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