Estimating cannibalization rates for pioneering innovations

Abstract

To evaluate the success of a new product, managers need to determine how much of its new demand is due to cannibalizing the firm’s other products, rather than drawing from competition or generating primary demand. We introduce a time-varying vector error-correction model to decompose the base sales of a new product into its constituent sources. The model allows managers to estimate cannibalization effects and calculate the new product’s net demand, which may be considerably less than its total demand. We apply our methodology to the introduction of the Lexus RX300 using detailed car transaction data. This case is especially interesting because the Lexus RX300 was the first crossover sport utility vehicle (SUV), implying that its demand could come from both the luxury SUV and the luxury sedan categories. Because Lexus was active in both categories, there was a double cannibalization potential. We show how the contribution of the different demand sources varies over time and discuss the managerial implications for both the focal brand and its competitors.