Consumers In Competitive Location Models Chapter 5 - Facility Location: Applications & Theory IE Summer /20/2009 Peter Bianco

Why Do We Care?!?! Improved Coverage of Consumer-Based Demand Market Penetration

Plan of Attack I. Model the Consumer’s Decision II. Determine the Role of the Facility in Consumer’s Decision III. Adjust the Consumer’s Decision to Reflect Reality IV. Consider Complexities in Consumer Behavior V. Conclusion & Useful Application

I. Model the Consumer’s Decision Demand Assignment Rules Consumer Characteristics Consumer Questions Decision Making Process Rational Consumer Assumption Basic Model

Demand Assignment Rules Allocation vs. Choice  Allocation - Customers are assigned to a facility location  Choice - Customers are free to choose a facility location Competitive Location = Consumer Choice

Consumer Characteristics Disposable Income Age Level of Education Preference for Consumption General Lifestyle Characteristics

Consumer Quesions What to Buy? How Much to Buy? Where to Buy It?

Decision Making Process: Consumer Choice Pleasure of shopping Basic need for goods Information gathering Motivatio n to shop Bundle Purchase Internal Factors: Size / Selection, Personnel, Pricing Store Location Utility Function (u ij ) STORE CHOICE Purchase Is Primary Motivation Purchase In Route; Not Primary Motivation for Trip Time Requirement Quick Need, Extra Trip NO YES SHORT LONG What to Buy? How Much to Buy? Where to Buy?

Rational Consumer: An Individual Who… Has full / accurate information about all alternatives Constructs a rational utility function about each alternative Optimizes that function by considering their expected satisfaction with each alternative Acts according to the rational thought process

The Basic Model u ij = f (C i, d ij, F j ) u ij = The utility function used to evaluate potential locations C i = Rational consumer at location “j“ and all factors associated with that consumer d ij = Distance between C i and F j; Distance always diminishes the utility function (Typically measured in travel time) F j = Facility at location “i“ and all factors associated with that facility

II. The Role of the Facility in Consumer Decision Making Equivalent Facilities Facilities Attributes Types Evaluation Multiplicative Additive Retail Gravitation & Distance Decay

Equivalent Facilities Facilities whose function makes them equivalent The only relevant factor is distance Newspaper Stands; Post Office; Etc.

Facility Attributes: Types Those things which differentiate one facility from another Service Cleanliness Pricing Parking Convenience Distance Selection Etc.

Facility Attributes: Evaluation Multiplicative vs. Additive Additive The practice of summing attributes to determine the utility function Each attribute has a relatively small impact on the function EX: u ij = (Selection + Service) - Distance Either Selection or service could be lacking slightly and not significantly effect the utility Multiplicative The practice of multiplying attributes to determine the utility function Each attribute has a relatively large impact on the function EX: u ij = (Selection x Service) / Distance Either Selection or service could be lacking slightly and significantly effect the utility This determination is made on a case by case basis EX: The restaurant industry would place a multiplicative weight on cleanliness

Retail Gravitation & Distance Decay u ij = w i / d ij 2 w i = the attractiveness index based on the consumer and the jth facility. The utility of an item diminishes inversely proportional to the square of the distance in the same way as gravity, acoustics, optics, etc. This only applies in situations where the model is 2-Dimensional (Planer, Network, Etc) The power of k=2 is the average of all facility types and may vary slightly from facility to facility (Furniture - k=2.723; Cloths - k=3.191) The variable k is referred to as the Distance Decay

EXAMPLE LocationDistance (d)Quality (q)Service (s)Cleanliness (c) A2231 B5421 C1340 D3111 u ij = (q+s)*c / d u(A) = (2+3)*1/2 = 2.5 u(B) = (4+2)*1/5 = 1.2 u(C) = (3+4)*0/1 = 0 u(D) = (1+1)*1/3 =.67 *This example is non-planer and therefore Retail Gravitation does not apply

III. Adjusting Consumer Rationality to Reflect Reality Bounded Rationality - Consumers have incomplete information and irrational reasons for patronage. Store Loyalty Category-Specific Store Loyalty

III. Adjusting Consumer Rationality to Reflect Reality Cognitive Map Cognitive vs. Objective Perceived Distance Directional Bias Toward City vs. Away From City Wedged Bias

Consider Complexities in Consumer Behavior Socioeconomic Considerations Nonhomogenious Product Selection Multipurpose Shopping Patronization Basis

Conclusions / Useful Applications The overriding and most constant factor is distance all other considerations act to overcome the negative effects of the fact that a consumer must travel some distance to meet his/her needs. Improved Coverage of Consumer-Based Demand Market Penetration