Private labels

Topics: Private label, Marketing, Branding Pages: 26 (5326 words) Published: November 3, 2013
Why do leading brand manufacturers supply
private labels?
J. Tomas Gomez-Arias
St Mary’s College of California, Moraga, Calfornia, USA, and

Laurentino Bello-Acebron
School of Economics and Business Science, University of A Coruna, A Coruna, Spain ˜
Purpose – Private labels are gaining increasing importance in many industries. While there are obvious benefits for retailers to embrace private labels, the standard explanations for manufacturers’ involvement (idle capacity, buffer against follower brands, retailer’s conditions) do not explain it completely. This paper seeks to provide an additional explanation. Design/methodology/approach – An economic model of vertical differentiation is proposed. Findings – The model shows that, once the retailer has decided to introduce the private label, and depending on the quality positioning chosen by the retailer, both manufacturers find situations where they are better off by not supplying the store brand and allowing the other manufacturer to produce the private label, but also situations where they prefer to produce the private label. Also, it is shown that retailers will choose the high-quality manufacturer for its premium store brand, and the low-quality manufacturer otherwise, and this decision is not based on the set of skills possessed by each manufacturing company.

Originality/value – The model contributes to explaining why private label supply is becoming so pervasive among all kinds of manufacturers under a variety of circumstances.
Keywords Generics, Brands, Retailing, Game theory, Competitive strategy Paper type Technical paper

There are obvious benefits for retailers to embrace private labels: although the retailer has to absorb some additional
merchandising and inventory costs, private labels have up to 20-30 percent wider gross margins than manufacturer
brands[2] (Hoch and Banerji, 1993; Hoch, 1996, A.C.
Nielsen, 2005), feedback on sales is faster allowing a quicker response to market changes, and they generate brand
awareness and consumer loyalty throughout the store
(Corstjens and Lal, 2000), while differentiating the store
from the competition, enhancing the retailer’s negotiating position with suppliers and offering a higher degree of
strategic flexibility and control for the retailer (Hoch, 1996; Nandan and Dickinson, 1994; Scott Morton and
Zettelmeyer, 2001). However, the benefits for the
manufacturers of private labels are far from obvious,
especially for the manufacturers who sell their own brands
but also manufacture retailer brands competing against their own. Some authors argue strongly against it (Quelch and
Harding, 1996) while others broadly favor the involvement of brand manufacturers in the production of private labels
(Kaven and Call, 1967; Dunne and Narasimhan, 1999). A
number of arguments have been provided in an effort to
explain why brand manufacturers make store brands (Quelch
and Harding, 1996; Kaven and Call, 1967; Dunne and
Narasimhan, 1999). One reason is that manufacturers have an
incentive to supply private labels in order to fill idle capacity. Some mention the use of private labels as a buffer between
leading brands and follower brands. And finally, supplying
private labels has been justified in terms of the increasing power of retailers who condition the purchase of branded
products to the supply of private labels or make it part of a wider collaborative effort to serve their customers (Corsten and Kumar, 2005). However, these arguments do not explain

An executive summary for managers and executive
readers can be found at the end of this issue.

Private labels[1] are gaining increasing importance in many
industries. While some years ago they seemed to be confined to consumer packaged goods (CPG) sold through some large
retailers, nowadays they command large and growing market
shares. According to the Private Labels Manufacturers
Association, store brands’ unit market share in US...

References: A.C. Nielsen (2005), “The power of private labels 2005”,
available at:
Choi, C.J. and Shin, H.S. (1992), “A comment on a model of
vertical product differentiation”, The Journal of Industrial
Corsten, D. and Kumar, N. (2005), “Do suppliers benefit
from collaborative relationships with large retailers? An
Corstjens, M. and Lal, R. (2000), “Building store loyalty
through store brands”, Journal of Marketing Research,
Cotterill, R.W. and Putsis, W.P. (2001), “Do models of
vertical strategic interaction for national and store brands
Cotterill, R.W., Putsis, W.P. and Dhar, R. (2000), “Assessing
the competitive interaction between private labels and
Wittner, P. (2003), Growth Strategies in Premium and Indulgent
Food and Drinks: Increasing Profitability and Market Share,
(Choi and Shin, 1992; Gabszewicz and Thisse, 1979;
Lehmann-Grube, 1997; Motta, 1993; Shaked and Sutton,
1982; Wauthy, 1996) and is not the focus of our article, we
assume product qualities are exogenously determined
fashion that seems to be common when private label brands
are involved (Cotterill and Putsis, 2001).
We use a demand model inspired by Tirole (1988) that is
common in the literature on vertical differentiation (Choi and
Shin, 1992; Lehmann-Grube, 1997; Moorthy, 1988; Ronnen,
1991; Wang, 2003)
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