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MARKETING TRENDS FOR ORGANIC FOOD IN THE 21ST CENTURY Series on Computers and Operations Research — Vol. 3 Copyright © 2004 by World Scientific Publishing Co. Pte. Ltd. All rights reserved. This book, or parts thereof, may not be reproduced in any form or by any means, electronic or mechanical, including photocopying, recording or any information storage and retrieval system now known or to be invented, without written permission from the Publisher.
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Marketing Trends for Organic Food in the 21st Century
Series on Computers and Operations Research Series Editor: P. M. Pardalos (University of Florida) Published Vol. 1
Optimization and Optimal Control eds. P. M. Pardalos, I. Tseveendorj andR. Enkhbat
Vol. 2
Supply Chain and Finance eds. P. M. Pardalos, A. Migdalas and G. Baourakis
Vol. 3
Marketing Trends for Organic Food in the 21st Century ed. G. Baourakis
V
FOREWORD Marketing of organic products, as in the case of food products, is viewed as a significant link between production and consumers, thereby facilitating the distribution of these relatively new quality products. The roles that marketing can play in this domain are varied and include: • Identification of appropriate markets and opportunities for organic food and quality products. • Provision of sufficient customer service through the understanding of consumer needs and changes enabling the appropriate adjustments of business strategies. • Support of organic products through advertising and sales promotion. It has become obvious that companies could orientate organic production and influence consumers' purchasing behaviour through the employment of the appropriate marketing strategies. Taking the above into consideration, the present book was written in the framework of exploring the marketing trends through the analysis of those elements that contribute to the extension of the organic food and quality products market, thus aiding marketers to encounter the challenges that the organic food sector will face in the future.
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VII
CONTENTS
Preface
xiii
Market Outlooks Producers' Attitude Consumer Behaviour Distribution Networks Potential Marketing The Marketing Mix Challenges Outline of the Book
xiii xiv XV XV
xvii xviii xix xxi
The Market for Organic Products Predicting Developments in Organic EU Markets - Are the Competitive Patterns in the Danish Case Useful? 1 Jens Vestergaard and Mai S. Linneberg 1 2 3
Organics in Denmark from 1987 to 2002 1 Understanding the Market(s) 4 Implications of the Danish Experience for Other Organic Markets in the EU 16
VIII
The Market and Welfare Effects of the New National Organic Program Amalia Yiannaka
21
1 2 3 4 5
21 23 26 29 33
Introduction Market Conditions Consumption Decisions and Welfare Prior to the Introduction of the NOP Consumption Decisions and Welfare under the NOP Concluding Remarks
Demand for Organically Produced Fruits and Vegetables in Northern Greece Efthimia Tsakiridou, Konstadinos Mattas and Yorgos Zotos
37
1 2 3 4 5
37 38 40 43 48
Introduction Theoretical Background Methodology Results Summary and Conclusions
Trends in the Marketing of Organic Grains and Oilseeds in the U.S. Cesar L. Revoredo
51
1 2 3 4 5
51 52 61 63 64
Introduction Organic and Conventional Grain and Oilseed Markets in the US Modeling the Interaction of Organic and Conventional Markets Marketing Margins and Price Premium of Organic Products Final Remarks
Current State of the Art of Legislaton and Marketing Trends of Organic Foods Worldwide 67 Ioannis S. Arvanitoyannis and Athanasios Krystallis 1 2 3 4 5
The Emergence of a New Kind of Farming: Different Approaches Legislation and Labelling Brief Reports on Organic Demand in International Markets Consumer Behaviour Towards Organic Food Conclusions
68 70 71 77 81
IX
Supply Chain of Organic Food and Quality Products Marketing Orientation and Its Consequence for the Food Chain Jon Hanfand Rainer Kiihl 1 2 3 4 5
Introduction Customer Segmentation Chain Systems Change of Quality Perception Conclusion
89
89 91 96 102 105
Marketing and Distribution of Quality Products: A Dutch Example G.M.L. Tacken and J.J. de Vlieger
109
1 2 3 4 5
109 110 112 119 123
Introduction Recent Developments in Dutch Agriculture Theoretical Aspects Dutch Examples Conclusions
Market Success of Premium Product Innovation: Empirical Evidence from the German Food Sector Kevin T. McNamara, Christoph R. Weiss andAntje Wittkopp
127
1 2 3 4
127 128 131 137
Introduction Literature Survey Data and Empirical Evidence Summary
Marketing Trends in the UK Organic Sector: Perspectives on Marketing Products from the Second Year of Conversion 141 Georgina C. Holt, Peter T. Grey, Philip J. Jones and Richard B. Tranter 1 2 3 4
Introduction Methods . The Structure of Organic Agrifood Marketing Conclusions
141 142 144 154
X
The Competitive Impacts of Organic Private Labels in General Food Retailing Astrid Jonas andJutta Roosen
157
1 2 3 4
157 158 165 169
Introduction Trends of Organic Products and Private Labels in Food Retailing Competitive Impacts of Private-Label Organic Products Discussion
Measuring Corporate Social Responsibility in a Business to Society Context Gerrit Willem Ziggers
173
1 2 3 4
173 174 177 187
Introduction Measuring (Service) Quality A Model of the Quality Delivery Process in the BBCS-Context Conclusions and Directions for Further Research
Organic Food Marketing Trends Consumer Perception and Marketing of Origin and Organic Labelled Food Products in Europe 191 Georges Giraud 1 2 3 4
Introduction Food Labels in Europe Consumers' Purchasing Behaviour for Organic and Origin-Labelled Food Products Conclusion
191 192 197 201
Factors Influencing Consumption of Organic Food A. Eves, M. Lumbers and J. Morgan
205
1 2 3 4
205 210 212 216
Introduction Methods Results Discussion
XI
Organic Food Consumers - The Irish Case S. O'Reilly, Mary McCarthy, P. O'Dovonan andB. Hewlett
221
1 2 3 4 5 6
222 222 226 226 232 234
Introduction Organic Food Production in Ireland The Organic Food Market in Ireland Consumer Behaviour in the Irish Organic Food Market The Irish Organic Food Market - Future Prospects Conclusions
Do Consumers Care About Where They Buy Organic Products? A Means-End Sudy with Evidence from Italian Data 239 Simona Naspetti and Raffaele Zanoli 1 2 3 4
Introduction Methodology Results Discussion
239 241 244 252
Consumer's Attitude Regarding Organic Products Briz Teresa and Al-Hajj Maya
257
1 2 3 4
257 258 259 270
Introduction Present Situation of the Spanish Organic Sector Consumer Analysis Conclusions and Recommendations
From Field to Table? The Marketing of Organic Products in Norway Anne Moxnes Jervell, Svein Ole Borgen and Ola Flaten
275
1 2 3 4 5 6
275 276 277 279 284 287
Introduction Background The Marketing of Organic Food Organics in the Supply Chain - Interests and Strategies Future Development Conclusion
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Testing and Validating the LOV Scale of Values in an Organic-Food-PurchaseContext 291 George M. Chryssochoidis 1 2 3 4 5
Introduction Literature Review Methodology, Sample and Measurement Analysis Discussion
291 292 293 294 298
Marketing Trends for Organic Food in Portugal Leonardo Costa, Miguel Sottomayor and A. Mendes
303
1 Introduction 2 Methods 3 Results 4 Conclusions Appendix I List of Questions Appendix II List of Interviewees
303 304 304 316 319 319
An Ordered Probit Model for the Analysis of Overall Customer Satisfaction (OCS) Regarding Organic-Food Consumption 3 21 A. Asciuto andF. Fiandaca 1 2 3 4 5 6
Introduction Survey Structure Analysis of the Determinants of Overall Customer Satisfaction Analysis Results and Discussion Concluding Remarks Acknowledgement
AUTHOR INDEX
321 322 323 329 334 335 337
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PREFACE Organic products have indisputably entered the food market while market demand for such products has expanded rapidly over the past decade. People throughout the world, especially those with a high standard of living, seem to prefer foodstuffs that are produced and processed by natural methods. Consumers are becoming more and more sensitive and, at the same time, demanding, when it comes to their nutrition. Moreover they are beginning to opt for products of organic origin, where available (Nucifora and Peri, 2001). Unfortunately, until recently, consumer demand for quality products was not taken as seriously in the food sector, as in other sectors of the economy. Producers cared more about the production volume and as far as consumers were concerned, all that mattered was the provision of products at reasonable prices (European Union Council, 2000). However, the situation has changed and customer satisfaction is beginning to play an increasingly significant role, since producers now have to face the demand for safe and good quality food (Kinsey and Senauer, 1996). Market Outlooks Organic products first appeared in Europe in the 1920's, but at that time the financial difficulties constituted a barrier to entry in the market. It was not until the 80's that organic agriculture started to gain acceptance and international standards were set. Consumer demand for quality and natural products increased and, thus, the number of farmers increased considerably, not only in Europe, but also in the United States (Lampkin and Padel, 1994). As the International Trade Centre (ICT) revealed, the retail sales of organic products throughout the world reached $20 billion in 2000 (IFOAM, 2001). The European Union, the USA and Japan are currently the market leaders. Since the mid-1980's, France, Japan and Singapore have been experiencing annual growth rates that exceed 20%. Developing countries, such as China, Egypt and Brazil, have also started showing interest in the organic industry (De Haen, 1999). Organic farming in Europe showed an increasing trend during the 90's. The greatest development was observed in the Scandinavian and Mediterranean countries, with Italy holding the first place. In most European countries, the market of organic products has not yet been developed. It is estimated, nevertheless, that organic products will gain a market share of 5-10% by 2005 (Sgouros and Laskari, 2000).
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It should also be mentioned that the European Union is the only market that has developed a specific legislative framework concerning organic farming. However, the EU scheme is based on the International Federation of Organic Agriculture Movements (IFOAM), which set the minimum standards (Geier, 2001). Producers' Attitude The organic sector is indisputably growing and is structuring itself very fast, especially in industrialized countries (FAO, 2000), a fact which is reasonable since organic fanning offers many benefits, both from an environmental and a socioeconomic point of view. The most significant advantages according to Lehmann (2000) are the following: • Protection of the environment through non-use of chemicals during the cultivation techniques. • Economic advantages. From the producer's point of view, organic products are sold at a higher price (at least 10-20%, even 40% in some cases), than the price of conventional ones, thereby reaping in significant profits. • Protection of producers' and consumers' health. Biological products are products with no pesticide residues. In this way, all their nutritional substances are preserved thereby offering products of high nutritional value. Nevertheless, there are some constraints making producers hesitant to get involved in organic farming. First of all, farmers experience some loss in yields during the phase of conversion to organic fanning, especially in countries with highly intensive agriculture. Sometimes it takes too long to restore the ecosystem to the point where organic production is possible. Farmers should therefore be prepared to receive lower net returns in this initial period than when organic farming has been established. What could be done in this case is to convert farms "in installments", in this way lowering the risk of the entire operation. The high cost of production is another obstacle for the farmer. Organic agriculture requires greater labour input and specific processing operations that are more costly than in conventional agriculture. As a result, the prices of organic products are higher. Financial support is a very serious factor since it becomes an incentive for the farmers to continue investing in organic farming. The lack of information which exists in the field of organic fanning is yet another obstacle. There are still producers unaware of organic conversion, since in some countries, insufficient institutional support, is offered throughout production, post-production and marketing processes. Thus, adequate information and education for farmers is considered to be absolute necessity.
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Consumer Behaviour In general, the overall image of organic products seems to be positive from the consumer point of view, since they are considered to be healthier, better tasting, more environmentally beneficial and their quality is as good as that of traditionally grown products (Nucifora, 2001). However, there are some constraints regarding the purchase of these products. On the one hand, there is no appropriate information background. That is, consumers are unaware of the existence of organic products or the specific attributes that differentiate organic products from conventional ones. On the other hand, marketing problems related to the supply, distribution and promotion of the product, exist. The majority of consumers consider organic products to be difficult to find, so they need either to contact organic producers directly or obtain the product from specialized retail outlets and a limited number of supermarkets. Apart from that, consumers cannot easily distinguish these products from the conventional ones, as they are not so well informed about the proper labelling of organic products. Consumers of organic products could be segmented into four groups, according to their purchasing behaviour (Fotopoulos, 1996): Environmental militants—consumers associate environmental and ethical values with organic farming. They are usually middle-aged, married with children and deeply concerned and committed to a greater protection of the environment and a more sustainable usage of natural resources. They are well informed of the positive environmental impact of organic agricultural practices. That is why they are regarded as "consumers by choice" (FAO, 2000). Price and quality are of no importance to them. Traditional—consumers, are concerned with flavour and authenticity. They are interested in products of traditional quality and bear in mind the concept of returning to old style farming. Price is of no importance to them. Dietary—consumers with "careful" nutritional values. What is of utmost importance to them is their health. Moreover, they are very influenced by medical research. They search for therapeutic products with balanced trace elements rather than the true organic ones. Dieters do not seem to be very well informed. Youthful-young, impulsive consumers interested in their health and physical condition (fitness). They are modern consumers, looking for flavour and quality and pleasure, concerned with dietary and environmental safety (ecologists). Distribution Networks The distribution network used for marketing organic products is the same as in the market of conventional products, but there is a difference in the shares. Thus, the
XVI
goals of a distribution network for retailing organic products should be to gain new market shares and improve the image of these products. Organic products are available mainly through the following channels (Santuccietal., 1999): • The organic producers themselves, who sell their products at local markets (once per week/once per month) or directly at the farm gate (selling at the farm). This channel favours the development of a direct relationship between consumers and producers eliminating the middlemen and improving the cash flow. • Health and natural food shops, depending on the interest of the shop owner and the ability of several organic farmers to launch their products as products of higher quality (e.g. wine, fruit, vegetables). Non-packaged products are offered and consumers can be informed about the products. Nevertheless, the small number of shops, the limited purchasing power and the high cost are among the drawbacks of this kind of channel. • Specialized retail outlets, which buy and sell organic products on a wholesale basis (Van der Smissen, 2000). It is an intermediate category between health food shops and supermarkets. Non-packaged products are offered and information about them is available to the customers. Unfortunately, the high cost, as well as the inability to stock organic products during the whole year, seems to be a disadvantage. • Supermarkets, which account for the majority of organic sales, but mainly rely on imports. The low cost, the good infrastructure and administration are the main reasons why supermarkets are selected as a suitable marketing channel. On the contrary, the limited number of products, the confusion of labels (organic, natural, ecological, traditional, etc.) and the inability to provide information are serious drawbacks. However, it should be noted that supermarkets have begun to sell organic products in a special "organic" section, where all organic products can easily be found. It is obvious that there are alternative marketing channels for producers to enter into the market. In general, the distribution and delivering of organic food products follow the routes below (Siskos, et al., 2001): • Producer—consumer • Producer—retailer—consumer • Producer—wholesaler—retailer—consumer • Producer—broker/agent—wholesaler—retailer-consumer However, according to a number of studies that have been conducted examining the purchasing behaviour throughout the world, consumers seem to be dissatisfied with the distribution of organic products. Since customers want easy access to the products, the selection of the optimal distribution channel is one of the most important decisions producers have to make. Customer satisfaction should be the major criterion for judging the success of the organic sector (Doyle, 1995).
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Potential Marketing According to Kotler (2000), the basic strategies that should be followed, in order for a product's market share to increase are the following: Market Penetration. New methods should be initiated to increase the market share of organic products. More specifically, there are three ways of achieving that. Firstly, the already existing consumers or "consumers by choice", should be motivated in order to continue consuming organic products through the years. Next, the "traditional" as well as the "dietary" consumers, who seem to be satisfied by these products, should be won over. Finally, the "youthful" consumers should be convinced of the benefits of organic products. It should be noted that the enthusiastic consumers take the variety of organic products for granted and consider the price to be less important. On the other hand, for occasional consumers the availability and the price of the products are significant. Market penetration is therefore a strategy, which is mainly based on lowering prices in order for the market share to increase. Product Development. This strategy includes the development of new products and the improvement of the existing ones. Several studies confirm that consumers want and expect new and improved products (Rudder, et al., 2001). These new products could lower cost. Nevertheless, it is a strategy that would not lead to expansion of market shares, since the price reduction is not the aim, according to relevant consumer strategies. Market Growth. The distribution of organic products, through the increasing number of market outlets is emphasized by this particular strategy. For occasional consumers the same considerations as in the case of market penetration exist. Supermarkets and specialized shops should have the same quality products as for conventional products. Knowledge about these products can be obtained through proper promotion. Of course, this strategy could not lead to cost minimization of organic products. Hence, the only chance of obtaining the desired share is by ensuring that these products will be available throughout the entire year. Differentiation. This strategy aims to find a product's unique features which set it apart from its competitors. Product, price, promotion and place (the marketing mix) are important elements. Following this strategy is a guarantee for a satisfactory market share in the case of organic products, but it requires great investment in promotion and product development. Judging from the above, it should be mentioned that a dual strategy must be followed, so as to secure a satisfactory market share. The strategy of market penetration should first be applied (Fotopoulos, 1996). Hence, all efforts should focus on consumers who obtain the specific products via the existing distribution channel either on a permanent or an occasional base ("environmentally militant", "dietary" and "traditional"). Subsequently, efforts should be made to take over those consumers who do not use organic products, such as the "youthful", target
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market who usually shop from supermarkets and specialized food shops. This will be accomplished through the market growth strategy. The Marketing Mix The market of organic products, is a market of differentiated, quality products and primarily requires long-term strategic policies and tools in order to establish effective market conditions. One set of marketing tools that a company could use to pursue its marketing objectives in the target market is the Marketing Mix. These tools are classified into four major groups, known as the four Ps: product, price, place and promotion (Kotler, 2000). Special Product Characteristics: The product is the first and most important element of the marketing mix. It is really important to choose the right product that satisfies the needs of the target market (Graeff, 1995). The decisions regarding product have to do with: • The selection of a product or a product line • Branding (sponsor, quality, family brand, brand name) • Packaging (size, shape, materials, colour, text, brand mark) • Labelling (description, identification) • Customer service Organic products should be produced according to specific conditions that guarantee their qualitative characteristics, such as "high quality" and "unique flavor" (Kyriakopoulos, 1998). Packaging should be ecological, modern and attractive. The label should include all the necessary information and guarantees associated with the organic origin and certification of the products, based on reliable analysis (Davies and Wright, 1994). Consumers should not be confused by technical terms placed on the label. On the contrary, since label information seems to affect consumers' purchasing decision, the information appearing on food package labels should be unambiguous (Baltas, 2001). Price formation: A price policy could be developed, according to the type of the product. To properly set prices, of course, is a matter that needs to be carefully examined, since it affects consumer behaviour (Mulhern, 1997). Great attention should also be paid whenever price analysis and comparisons with conventional products are made. Previous studies have shown that in order to create an effective market, the price of organic products cannot be more than forty percent higher than the corresponding conventional ones, in order to create an effective market. More specifically the rise in price could range from 10-20% higher on average reaching 40% in certain cases. Distribution: Distribution channel decisions are among the most important ones. A number of previous consumer surveys have revealed that a product is not good enough unless it is available wherever and whenever customers want.
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Supermarkets, set aside a special "organic" section where all organic products can easily be found and distinguished from the conventional ones. This serves to emphasize the fact that a product should be located in such places where it can easily be acquired. Promotion: It concerns any method that makes the product familiar to the consumers. This marketing mix has to convince consumers, through building their loyalty, of the benefits of organic products among which are quality, flavour, ecology, pleasure and security (Duffy, 1998). The "traditional" and "dietary" consumers are more likely to become customers of organic products. Thus, good communication is essential. A very effective way of approaching the consumer is through advertising and sales promotion. Indeed, in order to make commercial progress regarding the image of these products, advertising has a significant role to play in shaping consumer perceptions (Loader and Hobbs, 1999). Newspapers, magazines, posters, T.V, radio and Internet are the most common tools of advertising. Internet can provide significant benefits both to B2C and B2B commerce, such as lower transaction cost and easier penetration to the international food markets (Baourakis G., et al. 2002). The key issue is to attract the attention of potential consumers, who will spread the information among other consumers. Repeating information is a necessary condition to transmit the attributes of organic products. Personal communication at retail outlets becomes an interesting strategy to get the products known to interested consumers. The repetition of messages is a useful policy to generate the correct identification of organic food attributes to consumers. Of course, further and more intensive research is needed in order to design the proper strategies and suggest a successful implementation of the marketing plan for organic products. The fact that there are segments such as, the "traditional", the "dietary" and the "youthful", which have yet to be fully exploited, leads to the conclusion that there are great margins for expansion of the market of these specific products. Challenges All recent studies conclude that the market of organic products is growing, especially in the industrialized countries. However, the share of organic products, even in large markets, rarely exceeds 1-2% of the total market (Hamm and Michelsen, 2000). This implies the removal of certain constraints, in order for the market of organic products to be further developed (FAO, 2001). The limitations the specific market is facing are the following: • Consumers are unaware of the specific attributes that differentiate organic products from conventional ones, as well as certification standards.
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• Producers are unwilling to become involved in organic agriculture either due to lack of information throughout production, post-harvest and marketing processes or due to lack of financial support during the first stages of transformation farm from conventional to organic (Papadopoulou, 1997). • Marketing problems related to the supply, distribution and promotion of the product exist. Consumers need either to contact organic producers directly or obtain the product from specialized retail outlets and a limited number of supermarkets. • Prices are much higher than those of conventional products. Judging from the above, it should be noted that adequate information about the importance of organic products is absolutely necessary. Official training, including an organized system of specialized extended services in order to educate organic farmers and new entrants, as well as subsidized seminars on organic agriculture could prove useful. Action should also be taken in order to support consumer confidence. Reliable systems of monitoring and verification for certifying the organic nature of the products could also contribute towards this direction (De Haen, 1999). The second step would be the existence of policy initiatives and standards to encourage farmers to adopt organic agriculture. The introduction of national standards and a clear definition of organic farming are also important. This could be accomplished through a favourable political environment including subsidies and financial support. The example of the European Union offering subsidies to the farmers so as to help them attain substantial percentages of agricultural land is worth noticing. Finally, the identification of potential and successful markets, including effective strategic marketing for penetration, is significant. A sufficient distribution network for better access to the products is necessary. There is also a need for better promotion of quality characteristics, as well as a more efficient production process and certification of organic products. In conclusion, the organic industry offers many opportunities despite the significant obstacles encountered. The main challenge for the time being is the establishment of the authenticity of the organic claim. However, before any of the above actions are taken, marketers should further analyze the behaviour of consumers and find out all the constraints that prevent them from purchasing organic products. It is therefore imperative for a number of studies to be conducted in the field of organic products, in order to draw up the strategic plans, which will contribute to the successful widening of the market of organic products.
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Outline of the Book This book aims to present the recent advances in the marketing of organic food, while at the same time places emphasis on market aspects related to food quality products. The included papers are refereed by renowned researchers in the areas of marketing, management, supply chain, e-commerce, economics, agricultural economics and related topics. The contents of the book are organised into the following sections: • The Market for Organic Food • Supply Chain of Organic and Food Quality Products. • Organic Food Marketing Trends Acknowledgements My warm appreciation is offered to all the authors who agreed to submit their work for publication in this volume. I am also grateful to the following referees: Prof. G. van Dijk (University of Wageningen, Dept. of Marketing and Consumer Behaviour and Nyenrode Business University, Netherlands), Prof. Panos M. Pardalos (University of Florida, Dept. of Industrial and Systems Engineering), Prof. C. Zopounidis (Technical University of Crete, Dept. of Production Engineering and Management, Greece), Prof. Ch. Ritson (University of Newcastle, Dept. of Food Marketing, UK), Prof. K. Mattas (Aristotlel University of Thessaloniki, Dept. of Agricultural Economics, Greece), Prof. G. Baltas (University of Economics and Business, Dept. of Marketing and Operation Research, Greece), Prof. D. Lucey (National University of Ireland, Dept. of Food Marketing), Prof. S. Henson (University of Guelph, Dept. of Consumer Studies, Canada) and Prof. K. Karantininis (The Royal Veterinary and Agricultural University of Denmark, Dept. of Economics and Natural Resources) who have evaluated the submitted papers. Finally, I would like to thank Miss E. Sandalidou, Miss P. Tsakiraki and Dr. C. Clapan for their assistance in the material management and presentation of this volume and Miss E. Maravelakis for the editing. This book is lovingly dedicated to my wife, Catherine.
Dr. G. Baourakis M.A.I.Ch.,Dept. of Economics, Management - Marketing and Finance, PO.Box 85, 73100 Chania, Crete, Greece. October 2003
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References 1. Baltas, G., Nutrition Labelling: Issues and Policies, European Journal of Marketing, Vol. 35, N°5/6, pp. 708-721, 2001. 2. Baourakis G., Kourgiantakis M. and Migdalas A., The impact of e-commerce on agrofood marketing, British Food Journal Vol. 104, N° 8, pp. 580-590, 2002. 3. Davies, M A P . and L. T. Wright, The Importance of Labelling Examined in Food Marketing, European Journal of Marketing, Vol. 28, N° 2, pp. 57-67, 1994. 4. De Haen, H., Production and Marketing Quality Organic Products: Opportunities and Challenges. Sixth IFOAM Trade Conference: Quality and Communication for the Organic Market, Florence, October, 23, 1999. 5. Doyle, P., Marketing in the New Millennium, European Journal of Marketing, Vol. 29, N° 13, pp. 23-41, 1995. 6. Duffy, D. L., Customer loyalty strategies, Journal of Consumer Marketing, Vol. 15, N°5, pp. 435-448, 1998. 7. European Union Council, Quality into Multiformity: A Challenge for the European Agriculture, Non-formal Meeting of the Agricultural Council, Evora, May 28-30, 2000. 8. FAO, Food Safety and Quality as Affected by Organic Farming, Twenty Second FAO Regional Conference for Europe, Porto, Portugal, July, 24-28, 2000. 9. Fotopoulos, C , Strategic Planning for Expansion of the Market for Organic Products, Agricoltura-Mediterranea, Vol. 126, pp. 260-269, 1996. 10. Geier, B., Organic Legislation beyond the EU: Private vs. Public, Proceedings of International Symposium Organic Agriculture, Agadir—Maroc, October, 710, 2001. 11. Graeff, T., Product Comprehension and Promotional Strategies, Journal of Consumer Marketing, Vol. 12, N°2, pp. 28-39, 1995. 12. Hamm, U., and J. Michelsen, Analysis of the Organic Food Market in Europe, Proceedings of the 13th International IFOAM Scientific Conference, Convention Center Basel, August, 28-31,2000. 13. IFOAM, Organic Agriculture Worldwide—Statistics and Future Prospects, 2001. [http://www.soel.de/inhalte/publikationen/s_74_03.pdfj. 14. Kinsey, J. and B. Senauer, Food Marketing in an Electronic Age: Implications for Agricultural Producers, 5th Joint Conference of Agriculture, Food and Environment, Albano, Italy, June, 17-19, 1996. 15. Kotler, P., Marketing Management, The Millennium Edition, Prentice Hall, Inc., New Jersey, 2000. 16. Kyriakopoulos, K., Market intention for Organic Products: A theoretical Model Applied for Organic Olive Oil. Consequences on the Marketing Mix in
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1
PREDICTING DEVELOPMENTS IN ORGANIC EU MARKETS - ARE THE COMPETITIVE PATTERNS IN THE DANISH CASE USEFUL?1
JENS VESTERGAARD & MAI S. LINNEBERG Aarhus School of Business, Department of International Business, Fuglesangs Alle 4, 8210 Aarhus V, Denmark E-mail: iensCmash. dk The organic market in Denmark is no longer a niche market as it was in the late 1980s. The development has followed the typical pattern for diffusion of innovations and by 2002 the market supply seemed to have surpassed the equilibrium supply by around 30% and a potential adjustment is expected in years to come. During the period 1987-2002 the development in the organic industry underwent dramatic changes. In the beginning many small new businesses dominated the area. Presently, there is a remarkable concentration of cooperative monopolies and oligopolies from the conventional industry dominating entire industry. In general, Denmark can be regarded as a frontrunner in organic development. Therefore, important clues concerning the development in other EU countries can be found, and the following points are analysed to evaluate if similar developments can be expected. Can the Danish diffusion path for organic development be expected in other countries? Will the supply in other EU markets also surpass market equilibrium? Are the Danish experiences with respect to policy choices and power-play of dominant players in processing and distribution industry of general relevance? Do the maturity gains and potential observed in the Danish organic industry apply to other markets? Is increased international trade beneficial?
Organics in Denmark from 1987 to 2002 With the foundation of the Danish Association of Organic Agriculture, the Danish organic movement was organised in 1981. The movement, which consisted of farmers, consumers and processors, established a list of guidelines for organic farming in Denmark. In the initial period of organic farming, demand was supplydriven and the organic scene attracted pioneers amongst farmers and consumers. From the late 1980s, organic products became a more visible element in food production and consumption. An important factor in this development was the introduction of the first Act on Organic Farming in 1987, which supplied the legal foundation for the organic standards and the necessary administrative basis for This paper draws on ongoing research for the project "Overcoming Barriers to Conversion to Organic Farming in the European Union Through Markets for Conversion Products" financed by the EU 5th Framework Programme (QRLT-1999-31112).
2
controlling the system. This act also formed the basis for the introduction of the state controlled logo, which can be used on domestically produced organic products (from state-authorised farms) and on foreign produced products on which the last economic activity is performed in Denmark. In 1993, the largest supermarket chain in Denmark (FDB) introduced a strategic promotion of organic products. The impact on the market was huge, and contributed to making the market and the future development demand-driven. A number of food and environmental scandals damaging the trust in conventional food products could also be seen to have contributed to the expansion of the organic market. Since the late 1990s, both the number of farms and the area under organic management have increased progressively. With 950 farms, the number of converting farms peaked in 1999. As figure 1 illustrates, the net conversion percentage continues to decrease after 1999.
S 900 1 •c I 5
3500
800 • •
700600 -
-3000 - 2500
i
•
e a
S
500 -
•»
400 -
-- 2000 c 1500 §
f | £
300 . 200 -
|
100-
X 3 f
S
hhii.J
| _ l ^ ^ ^ j v ^ | [i L In llTlJI ll ln,l^ li * J ^ ^ K# f J £ f £ & N# / ^ # j>
•a
- 1000 l l o • 500 °" -0
K
0
(1)
z, = 0, otherwise 2nd stage: Consumption equation (OLS) C*=P'Xi + Ui
Q = 1,
if C,*>0
(2)
Ct is not observed if z, = 0, The formulation of probit model (1) is provided with a dummy variable z*, an error term ui, a mean value equal to zero and a variance equal to one. In addition, wi is the vector of independent variables that affect the participation of the consumer in the market of the product being studied, and y is the vector of parameters that have to be estimated. The formulation of model (2) is provided through another dummy variable C*, with error term e„ mean zero and variance o/. The vector xt includes the explanatory variables, which affect the consumption of the product, taking into account that the consumer has already decided to participate in the market; /? is the vector of parameters to be estimated. The vectors of
40
independent variables w, and x, may or may not include the same set of variables. Heckman's model assumes that the error terms «, and e, are correlated. The correlation coefficient of errors is represented by p [13]. Based on equation (1), the probability for a consumer to participate in the market of organic products is: Prob(zrl)= 61 years old = 1, otherwise = 0 age5 annual household income (in million drs) / 6 months linc2 logarithm of annual household income / 6 months lninc2 (education level): if primary school = 1, otherwise = 0 edl (education level): if high school = 1, otherwise = 0 ed2 (education level): if university student - post-graduate studies = 1, otherwise = 0 ed3 (occupation): if Civil Servant = 1, otherwise = 0 rol (occupation): if Private Servant = 1, otherwise = 0 ro2 (occupation): if private enterprise = 1, otherwise = 0 ro3 (occupation): if retired = 1, otherwise = 0 ro4 (occupation): if other occupation = 1, otherwise = 0 ro5 (place of birth): if urban area = 1, otherwise = 0 bill (place of birth): if semi-urban area = 1, otherwise = 0 bir2 bir3 (place of birth): if rural area = 1, otherwise = 0 (eco-awareness): 22-35 = 1, otherwise (0-21) = 0(1 statements) Dl (organic prices): 10-15 = 1, otherwise (0-9) = 0 (3 statements) D2 D3 (organic product attributes): 16-25 = 1, otherwise (0-15) = 0 (5 statements) (health): 7-10 = 1, otherwise (0-6) = 0 (2 statements) D4 (organic products market): if 10-15 = 1, otherwise (0-9) = 0 (3 statements) D5 (attention in food labels): if 4-5 = 1, otherwise =0 XI (interest for chemical residues in foods): if X2>22,5 then X2 = 1, otherwise = 0 X2
However, a brief explanation is needed for dj and Xi. In order for these variables to be used as dummies the following procedure was undertaken: dj variables were used to measure consumer attitudes towards organic products and the environment. For attitude measurement a five-degree Likert scale was used. Respondents were asked to denote the level of agreement or disagreement with 22 statements. Each scale was represented by a number (from 5=totally agree to l=totally disagree). These 22 statements were clustered in five units such as: 'ecological awareness' (7 statements), 'organic product prices' (3 statements),
43
'quality attributes of organic products' (5 statements), 'health and consumption of organic products' (2 statements) and finally 'demand and supply of organic products' (3 statements)11. Variables XI and X2 were derived from the same procedure described above. More precisely, variable XI is derived from the question "pay attention to food labels", and takes the value 1 if the respondent states 'always' (=5) or 'usually' (=4). Otherwise it takes the value 0. Finally, variable X2 (interest in chemical residues in foods) is also a dummy variable, which is derived from the same procedure described for variables dj. The restricted number of observations included in the second stage of Heckman's model lead to the elimination of some variables. Analytically, variables agel (> 20 years old) and age2 (21-30 years old), and variables rol (civil servant) Kca ro2 (private servant) were eliminated and the variables derived were age 12 and rol2, respectively. 4
Results
The reference consumer in the applied demand model either for organic fruits or for organic vegetables is female, over 60 years old, with a high level of education (from university student to post-graduate studies), who owns a private enterprise and was born in an urban area. In the probit equation this reference consumer is represented by the constant term. 4.1
Demandfor organic fruits
According to the results obtained from the analysis, the socioeconomic factors that positively influence the probability for a consumer to participate in the market of organic fruits are household income, education level and occupation. Thus, an increase in income, a consumer that has completed primary education, and has employment is more willing to participate in the market of organic fruits. On the contrary, facts with a negative effect on organic fruit market participation are aged between 41 and 60 years old and have been born in semi-urban areas. As a result, consumers who belong to this class of age and those from semi-urban areas are not willing to participate in the market.
11 For example, when a consumer totally agreed in all the three statements, the maximum value of the unit was 15 (totally agree = 5 X 3 statements). If the respondent was neutral (3= neither agree or disagree) or disagreed (2=disagree, l=totally disagree), the maximum value of the unit for this consumer was 9 (3X3 statements). Therefore, if the summation of the responses was greater than 9 (from 10 to 15), the unit was represented from a dummy variable (i.e d5) that took the value one. Contrarily, if the summation of the statements was from 0 to 9, the dummy variable d2 was equal to zero.
44
Considering variablesrelevantto consumers' attitudes, variables d3 (quality attributes of organic products), XI (attention in food labels) and X2 (interest about chemical residues in food) appear to be statistically significant with a positive sign. This means that consumers who consider organic products to be of better quality compared to their conventional counterparts, those who pay attention to food labels and are interested in the level of chemical residues in food products have a higher probability of participating in the market for organic fruits. The results suggest that the estimated model was capable of making over 74 percent correct predictions on consumers' probability to participate in the market of organic fruits. The estimated log-likelihood ratio is 64.88 and significant at the 0.01 significance level. In addition, the R-square values indicate that the estimated model is statistically valid and fits the data reasonably well (Table 2). Considering the second stage (consumption equation), the majority of independent variables appear to be significant and therefore influence the consumption of organic fruits. Among the socioeconomic consumer characteristics, all the variables included in the model that represent household income, level of education and occupation positively affect the consumption of organic fruits. Therefore, all consumers who hold a primary or secondary education, as well as all employees, or other job occupants, whether they be retired or not (aside from entrepreneurs) consume these products. Socioeconomic factors that negatively affect the consumption of organic fruits are age and place of birth. Therefore, all the respondents aged until 60 years of age and those from semi-urban and rural areas do not consume organic fruits. Variables relevant to consumer attitudes dl (ecological awareness), d2 (organic product prices), d3 (quality attributes of organic products), XI (attention to food labels) and X2 (interest in chemical residues in food) positively influence the consumption of organic fruits. The exception is variable d4 (health and consumption of organic products), which has a negative effect. This means that consumers with ecological awareness, those who are satisfied from the prices of organic products, who consider organic products to be of better quality compared to their conventional counterparts, as well as consumers who pay attention to food labels and are interested in chemical residues in foods consume higher quantities of organic fruits. The R-square value (0.46) is higher than in the probit equation and indicates that the estimated model is statistically valid and fits the data reasonably well (Table 2).
4.2
Demandfor organic vegetables
Results obtained from the model estimation for organic vegetables indicated that the socioeconomic factors that positively influence the probability for a consumer to
45
participate in the market of organic vegetables are age, household income and occupation. Thus, consumers between 41 and 60 years old, with a higher income, as well as a retired consumer, are more willing to participate in the market of organic vegetables. Considering variables relevant to consumers' attitudes, variables d2 (organic product prices), d5 (satisfied from the market of organic products) and XI (attention to food labels) are statistically significant with a positive sign. This means that consumers who consider organic product prices reasonable, are satisfied from the market of these products and those who pay attention to food labels have a higher probability of participation in the market of organic vegetables. The results suggest that the estimated model was capable of making over 74.3 percent correct predictions on consumers' probability to participate in the market of organic vegetables. The estimated log-likelihood ratio is 93.51 and significant at the 0.01 significance level. In addition, the R-square values indicate that the estimated model is statistically valid and fits the data reasonably well (Table 2). Considering the second stage (consumption equation), the majority of independent variables appear to be significant and therefore influence the consumption of organic vegetables. Among the socioeconomic consumer characteristics, age, household income, level of education and occupation positively affect the consumption of organic vegetables. Therefore, consumers aged between 31 and 60 years old, with a higher income, all consumers from primary education until graduates from high schools, as well as retired consume these products. Socioeconomic factors that negatively affect the consumption of organic vegetables are gender and place of birth. Therefore, men and consumers from semiurban and rural areas do not consume organic vegetables. Variables relevant to consumer attitudes d2 (organic product prices), d3 (quality attributes of organic products), d5 (satisfied from the market of organic products), XI (attention to food labels) and X2 (interest in chemical residues in food) positively influence the consumption of organic vegetables. This means that consumers who are satisfied from the prices of organic products, those who consider organic products to be of better quality compared to their conventional counterparts, those who are satisfied from the market of these products, as well as consumers who pay attention to food labels and are interested in chemical residues in foods, consume higher quantities of organic vegetables. The R-square value (0.37) is higher than in the probit equation and indicates that the estimated model is statistically valid and fits the data reasonably well (Table 2).
46
4.3
Income elasticities for organic fruits and vegetables
Income elasticities for both organic fruits and vegetables were directly estimated in the second stage of the Heckman's model, where the double-logarithmic function form of Engel's curve directly provides the value of income elasticity. Therefore, the value of coefficient b equals the value of income elasticity. Analytically, for organic fruits the value of income elasticity equals 2.22, indicating an elastic demand for this product category. Similar is the value of income elasticity for organic vegetables (2.61), which means that the demand for organic vegetables will significantly increase as the income increases. The values of elasticities for organic fruits and vegetables indicate that both products are luxury commodities.
47 Table 2: Model estimation for organic fruits and vegetables Organic Fruits Consumption Equation
tratio
Probit Equation
t-ratio
Consumption Equation
t-ratio
-0.015477
0.077 15
-0.23848
-1.2231
-0.39780
-2.144
-0.10329
0.895 1
0.007294 6
0.073187
0.030071
0.3313
0.14858
0.27484
0.080416
0.2001
0.50818
2.3589
1.0471
3.641
0.073524
0.29084
0.35661
1.573
3.684
1.9122
5.5007
2.6067
4.773
2.085
0.18637
1.0144
0.57649
3.355
Variables
Probit Equation
GENDER
-0.10886
SIZE
-0.066527
AGE12
-0.25155
-1.0933
-0.45015
AGE4
-0.54227
-2.3976
-1.3143
AGE3
-0.84607
-1.2998
-2.4352
LINC2
1.2992
3.9150
2.2188
ED2
0.20094
1.0317
0.53331
t-ratio
0.55028
Organic vegetables
0.64740
1.666 2.792 2.530
EDI
0.81067
1.9985
1.3308
1.617
0.24971
0.67902
0.51669
1.538
R05
0.36919
0.90403
0.84469
1.755
0.20586
0.54959
0.16838
0.5299
R012
0.S3815
1.5110
1.0610
2.018
0.19159
0.58925
0.17460
0.6225
R04
0.65280
1.0938
1.7718
2.566
0.82105
1.4041
1.6689
3.447
BIR3
-0.23273
-1.0344
-0.59611
-0.20208
-0.93816
-0.56599
-2.700
BIR2
-0.28989
-1.3740
-0.66901
-0.26769
-1.3399
-0.61362
-2.874
Dl
0.30062
0.84682
1.6399
3.469
0.018804
0.060441
0.21394
0.7392
D2
0.20380
1.0679
0.55832
2.408
0.33604
1.7618
1.0611
4.904
D3
0.30288
1.4632
0.53698
1.538
0.16964
0.85632
0.51079
2.609
D4
-0.23595
0.24197
0.47060
-0.033812
DS
0.42570
1.316
0.77998
1.5009
0.86235
2.285
XI X2
0.45170
2.075
2.645
0.06381
0.96987
0.59270
0.33581
1.8127
0.57862
1.783
0.36937
2.0596
0.74298
2.987
0.62487
2.6640
1.6766
3.010
0.26476
1.2730
0.43407
2.009
3.1350
2.619
3.4460
4.129
-42.024
-4.395
LI CONST ANT
-1.5629
2.216
-2.3069
-3.0867
-36.411
3.246
-2.5868
-3.4691
Model stat sties (organic fruits)
Model statistics (organic vegetables)
Probit Equ ation
Probit Equation
LR = 64.88 lnL = -152.54 R2 (Madda la) = 0.18 R2 (Cragg - Uhler) = 0.27 R2 (McFadden) = 0 17 % of right predictions = 74%
Consump tion Equation
R2 = 0.46 lnL = -66 59
LR = 93.51 lnL = -159.86 R2 (Maddala) = 0.26 R2 (Cragg-Uhler) = 0.3 5 R2 (McFadden) = 0 23 % of right predictions = 74.3%
Co nsumption I.quation
R2 = 0.37 In! = -96.12
48
5
Summary and Conclusions
This paper provides an empirical examination of the factors affecting the demand for organic fruits and vegetables in Northern Greece. Based on primary data collection, the survey attempted to identify the profile of actual consumers of these products, applying Heckman's model. Factors like household income, gender, age, level of education, occupation, as well as attitudes towards the environment and organic products were considered as independent variables in the model and their influence in the probability of market participation as well as in the quantity consumed, was measured. Results revealed the most important factor that affects the choice of a consumer to participate in the market of organic fruits and vegetables is the level of household income. Consumer characteristics that have a positive effect on the probability to participate in the market of organic fruits are education and occupation. Factors relevant to attitudes towards the environment and organic products that positively influence consumer choice to participate in the market of organic fruits are satisfaction from the quality attributes of organic products, attention to food labels and interest in the existence of chemical residues in food products. Factors that were found to have a positive effect on the consumption of organic fruits are, level of education, occupation, ecological awareness, satisfaction from the quality attributes of organic products, satisfaction from the prices of organic products, satisfaction from the market of organic products, attention to food labels and interest in chemical residues in foods. On the contrary, age and place of birth negatively affect the consumption of organic fruits. Consumer characteristics that have a positive effect on the probability to participate in the market of organic vegetables are age and occupation. Factors relevant to attitudes towards the environment and organic products that positively influence consumer choice to participate in the market of organic vegetables are positive attitudes towards organic product prices, satisfaction from the market of organic products and attention to food labels. Factors that were found to have a positive effect on the consumption of organic vegetables are age, level of education, occupation, positive attitudes towards organic product prices satisfaction from the market of organic products, attention to food labels and interest in chemical residues in foods. On the contrary, place of birth negatively affect the consumption of organic vegetables. The income elasticity estimated, reveals that both organic fruits and vegetables are classified as luxury goods with an elastic demand. This means that an increase of consumer incomes will have positive effects for the demand of organic fruits and vegetables, despite the higher prices of these products in comparison to their conventional counterparts.
49
References 1. Bagnara, G.L. (1996). Brand Name and Added Value in Horticultural Products : Analysis of Consumer Perception. Proceedings of the Fifth Joint Conference on Agriculture, Food and the Environment. Working Paper WP964. 2. Beharrell, B. and J.H. MacFie (1991). Consumer Attitudes to Organic Foods. British Food Journal, 93(2), 25-30. 3. Buzby, J.C, J.R. Skees and R.C. Ready (1995). Using Contingent Valuation to Value Food Safety: A Case Study of Grapefruit and Pesticide Residues. In Valuing Food Safety and Nutrition, edited by J A. Caswell. Westview Press, Boulder, Colorado. 4. Heckman, J. (1979). Sample Selection Bias as a Specification Error, Econometrica, 47, 153-161. 5. Huang, C.L. (1996). Consumer preferences and attitudes towards organically grown produce. European Review of Agricultural Economics, 23, 331-342. 6. Jolly, D.A., H.G. Schutz, K.V. Diaz-Knauf and J. Johal (1989). Organic Foods: Consumer attitudes and use. Food Technology, November, 60-66. 7. Lai, Y., W. Florkowski, C. Huang, B. Bruckner and I. Schonhof (1997). Consumer Willingness to Pay for Improved Attributes of Fresh Vegetables: A Comparison between Atlanta and Berlin. Paper submitted to the WAEA Annual meeting, July 13-16, Reno, NV. 8. Lazaridis, P. (1999). The Structure of the Demand for Basic Foods with Horizon 2010. in N. Maravegias, "The Greek Agriculture towards 2010", Papazisi eds., Agricultural University of Athens, 79-155 (in Greek). 9. Lazaridis, P. (2000). Demand Functions with Insufficient Data of Consumer Expenditure: An Application in the Demand for Prepared Meals. Proceedings of the 5th Panhellenic Conference of Agricultural Economics, Stamoulis eds, Athens, 582-598 (in Greek). 10. Maddala, G. (1983). Limited Depended and Quantitative Variables in Econometrics. Cambridge: Cambridge University Press. 11. Park, T. A. and L. Lohr (1996). Supply and Demand Factors for Organic Produce. American Journal Agricultural Economics, 78, 647-655. 12. Pudney, S. (1989). Modelling Individual Choice, the Econometrics of Corners, Kinks and Holes. New York: Basic Blackwell Inc. 13. Sana, A., O. Capps, Jr and P. J. Byrne (1997). Calculating marginal effects in models for zero expenditures in household budgets using a Heckman-type correction, Applied Economics, 29, 1311-1316. 14. Sapounas, G. (1985). Applied Demand Analysis. Theory, Methods and Implications. Athens: Special Scientific Studies of Agricultural Bank of Greece (in Greek).
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15. Schutz, H.G and O.A. Lorenz (1976). Consumer preferences for vegetables grown under 'commercial' and 'organic' conditions. Journal of Food Science, 41,. 16. Siikamaki, J. (1996). Consumer preferences for using pesticides in agriculture - a contingent valuation approach. Paper presented at the 8th Conference of EAAE, Edinburg, 3-7 September, 1996. 17. Taniguchi, K and W.S. Chern (2000). Income Elasticity of Rice Demand in Japan and Its Implications: Cross-Sectional Data Analysis. Paper prepared for 2000 AAEA meeting. 18. Thompson, G. D. (1998). Consumer Demand for Organic Foods: What we know and what we need to know. American Journal of Agricultural Economics, 80(5), 1113-1118. 19. Thompson, G. D. and J. Kidwell (1998). Explaining The Choice Of The Organic Produce: Cosmetic Defects, Prices And Consumer Preferences, American Journal of Agricultural Economics, 80, 277-287. 20. Tzouramani, I., Ch. Fotopoulos and K. Mattas (1996). Supply Chain Management of Greek Organic Agricultural Products, Paper presented at the 70th EAAE Seminar "Problems and Prospects of Balkan agriculture in a restructuring environment", Thessaloniki 9-11 June, 2000. 21. Zotos, Y., P. Ziamou and E. Tsakiridou (1999). Marketing Organically Produced Food Products in Greece: Challenges and Opportunities. Greener Management International, 25(Spring), 91-104.
51
TRENDS IN THE MARKETING OF ORGANIC GRAINS AND OILSEEDS IN THE U.S. C. L. REVOREDO Department of Agricultural and Applied Economics, College of Agricultural and Environment Sciences, Griffin Campus, University of Georgia, Griffin, GA 30223-1797. USA E-mail: revoredo&grifftn.
usa. edit
This paper analyzes the marketing of organic grains and oilseeds in the United States in order to assess their future trends. Grains and oilseeds are interesting because they are inputs in the production of final goods (e.g., edible oils, pasta, flour, bread, breakfast-cereals, animal feed, etc.). Therefore, observed price premiums with respect to similar conventional products at the farm level are related to price premiums observed at the final goods markets. Available information indicates that both supply and demand for organic products will continue growing, due to the substantial potential demand and to the entry of mainstream processing firms in the production of organic products. This is also confirmed in the simulation results, which also indicate that investments in marketing infrastructure for organic products should reduce marketing margins and observed price premiums.
1
Introduction
The purpose of this paper is to analyze the marketing chains of organic grains and oilseeds in the United States in order to assess their future trends. However, since marketing costs are associated with the transacted volume, the paper also addresses the trends in the supply and demand for grains and oilseeds and their processed goods. Grains and oilseeds are interesting cases because, in contrast to fresh vegetables and fruit, they are "raw materials" for the production offinalgoods (e.g., edible oils, pasta, flour, bread, breakfast-cereals, etc.). Therefore, because of this productive configuration, observed price premiums at the farm level reflect price premiums observed at thefinalgoods markets. Most of the information used in this paper is based on reports of organic associations or interviews with farmers or processors engaged in handling organic products. There exists little statistical information about how the marketing of organic grain and oilseed products operates. This is probably due to the fact that although the organic market has been growing at a fast pace, it still represents a small share of the conventional market. The fact that an important part of the marketing is transacted by direct contact between sellers and purchasers renders it difficult to collect information about marketing channels and price premiums at each stage of the marketing chain. The paper starts with a description of the supply, demand and the marketing of organic grain and oilseeds and their processed products. The emphasis is not only to
52
present the main characteristics but also to point out elements that can affect the organic market in the future. In the next section, a partial equilibrium simulation model is built in order to assess probable trends of the organic market. Since at the retail level organic products may compete, at least for some consumer segments, with conventional products, the model considers the interaction between conventional and organic foods. In the subsequent section, the model is used to simulate the effect on price premiums and marketing margins, of increases in the planted area with organic products, a reduction in the costs of fanning organic products, a reduction in the costs of processing organic products, and expansion in the demand for organic products. Finally, somefinalremarks are presented. 2
Organic and Conventional Grain and Oilseed Markets in the US
2.1 Supply One of the constraints for the expansion of organic markets is the small supply of organic grain and oilseeds. This creates two kinds of problems: first, neither the farmers nor the processors can take advantage of the scale economies to reduce their production and marketing costs. Second, a low level of production cannot ensure the sufficient quantity of homogenous quality products as required by processors. In this section we analyze the supply of raw materials (i.e., farmers' output of organic grains and oilseeds) and the supply of organic processed goods. 2.1.1
Raw materials
Table 1 presents information about the planted area for organic and conventional grains (corn, oats, and wheat) and soybean. A planted area with organic grains and oilseeds represents a small fraction of the planted area for similar conventional products. In 2001, each organic crop represented less than 1 percent of the total planted area. However, one can observe that since 1995 these shares have been steadily growing due to both the fast growing pace of the organic farming and the decrease of the conventional production. According to Greene and Kremen [9], based on 2001 statistics, North Dakota is the state with the largest planted area with organic grains (64 thousand acres); however, if we analyze by crop, Minnesota leads in planted area with corn (19 thousand acres) and Montana in wheat (39 thousand acres). With respect to organic soybeans, Minnesota and Iowa are the two leading states with 30 and 27 thousand acres, respectively.
53 Table 1. Total acreage planted for selected organic grains and oilseeds 1995-2001 (Acres)
Corn Total acreage Conventional Organic Share organic/total
1995
1997
2000
2001
71,245,000 71,212,350 32,650 0.05
80,227,000 80,184,297 42,703 0.05
79,545,000 79,467,088 77,912 0.10
75,752,000 75,658,449 93,551 0.12
12.6 30.8
-0.9 82.5
-4.8 20.1
5,169,000 5,139,252 29,748 0.58
4,404,000 4,374,229 29,771 0.68
4,403,000 4,369,746 33,254 0.76
-18.7 124.5
-14.9 0.1
-0.1 11.7
70,850,000 70,767,857 82,143 0.12
74,496,000 74,359,929 136,071 0.18
74,105,000 73,930,533 174,467 0.24
13.2 74.0
5.1 65.7
-0.6 28.2
70,989,000 70,863,313 125,687 0.18
62,529,000 62,347,738 181,262 0.29
59,617,000 59,422,360 194,640 0.33
2.6 30.8
-12.0 44.2
-4.7 7.4
(%) Conv. growth rate (%) Org. growth rate (%) Oats Total acreage Conventional Organic Share organic/total
6,336,000 6,322,750 13,250 0.21
(%) Conv. growth rate (%) Org. growth rate (%) Soybeans Total acreage Conventional Organic Share organic/total
62,575,000 62,527,800 47,200 0.08
(%) Conv. growth rate (%) Org. growth rate (%) Wheat Total acreage Conventional Organic Share organic/total
69,177,000 69,080,900 96,100 0.14
(%) Conv. growth rate (%) Org. growth rate (%)
Source: Green and Kremen [11], NASS-USDA [13]
54
There is no official data about US average yields obtained in organic fanning. Information about yields of organic grains and oilseeds comes from experimental studies from several U.S. universities (see Welsh [17] for a comparison between these studies). Table 2 presents the results from the South Dakota State University experiment station. These results were selected because they compare yields obtained in organic and conventional crops. The results show that, except in the case of corn where organic yields were 20 percent higher than the conventional ones, yields from organic and conventional agriculture are very similar. However, as pointed out by Welsh [17], based on the existing evidence, conventional farming systems seem to produce higher yields in areas of higher precipitation (e.g., Corn Belt), while organic farming systems do better in drier areas (e.g., Great Plains). Table 2. Crop yields by study and cropping system, South Dakota State University Experiment Station Trials ,1986-92 averages
Unit Study 1 Corn Soybeans Spring wheat Oats Alfalfa Acres per crop (average)
Bushel/acre Bushel/acre Bushel/acre Bushel/acre Metric tons/acre
Study 2 Soybeans Spring wheat Barley Oats Acres per crop (average)
Bushel/acre Bushel/acre Bushel/acre Bushel/acre
Conventional
Organic
76.2 26.6 55.1 4.6 127.0
29.6 41.5 58.5 135.0
91.2 27.0 39.8
162.0
28.6 39.5 63.0 162.0
Source: Smolik et al [14], taken from Welsh [17].
While for some farmers the production of organic crops is associated with a lifestyle or concern about environment, expansion of organic agriculture is certainly associated with the profitability obtained with organic crops. According to Welsh [17], there is no conclusive evidence that organic farming is more or less profitable than conventional agriculture. However, there are several issues that may affect the profitability of organic farming and therefore its adoption by farmers engaged in conventional agriculture. First, with respect to the acreage destined to a specific crop, as pointed out by Greene [7], organic farmers grow a diversity of field crops because of the role of crop rotations in controlling weeds and maintaining fertility in organic farming systems. This may reduce yields and potential output in
55
comparison with the conventional agriculture. Second, in terms of revenue, in the U.S., transition from conventional to organic agriculture takes three years, and producers normally do not obtain the premium paid to organic products before that period [8]. Third, in terms of fixed costs, organic farmers have to face the cost of certification, which includes not only the certification fee but also keeping records of input use and other farm activities. However, it should be noted that currently this cost is partially subsidized by USD A [5]. Fourth, in terms of variable costs, organic agriculture requires more labor force and diesel fuel than conventional agriculture, however, it does not require chemical inputs [5]. 2.1.2
Processed products
Organic processed products (e.g., flour, bread, edible oil, etc.) are certified as organic when they are prepared using at least 95 percent of organic ingredients. However, in the absence of some commercially organic ingredients, conventional ingredients can be used. When the product contains 70 to 95 percent of organic ingredients, processors may label the organic ingredients on the package [4]. The organic food processing industry includes firms (manufacturers, millers, distributors, and exporters) that deal with both conventional and organic products and those firms that only process organic products. An example of the first kind of firm is General Mills, which produces organic corn and wheat cereals. It also represents a mainstream firm that expanded its operations into the organic sector. On the other side of the spectrum, Eden Foods is an example of the second kind of firm, processing and retailing organic foods since the late of 1960s [4]. In general, the operation of firms producing organic processed products is similar to that of firms processing conventional agricultural products. However, the level of production and the need to maintain organic products free of non-organic components impose higher costs to the organic processing industry. First, as pointed out by Heid[ll], for the case of grain milling, a substantial part of the processing costs are variable costs. These costs decline relative to the fixed costs as the mill capacity increases. Therefore, given the low scale of production of organic processing, its costs must be higher than conventional processing costs. Second, according to Greene and Dobbs [8], due to insufficient raw material organic manufacturers sometimes have to wait longer than they would have liked in order to process by schedules. Third, a number of plants process both conventional and organic grains and edible beans. According to Dimitri and Greene[4] organic and conventional grown ingredients must be kept separate, and the organic ingredients must be stored in containers that do not compromise the organic nature of the food. Both organic and conventional ingredients must not be treated with ionizing radiation, excluded methods, and synthetic methods. The techniques used by processors to prevent commingling of organic and non-organic products are costly [8].
56
2.2 Demand The scarce information for organic products shows that sale of grain and oilseed products have been growing at a fast pace. Overall, according to Harper [10], approximately 50 percent of the US consumer base appears to be interested in organic products, these being the same people that are most likely to be purchasing organic food products in the future. This population can be divided into four groups. The first group includes consumers that have historically been the "core" believers in organic food. They are highly educated, mostly 'baby boomers' and are passionate about organic and the environmental benefits it provides. Great taste has historically not been one of their top concerns. The second group is well-educated, affluent, mostly urban professionals that are focused on their well being and the benefits that a food may bring to their health. The third group is much more demographically reflective of the US population in general. They are more family oriented, shop in traditional supermarkets and are interested in the impact of chemicals and pesticides on the environment and the food supply. They are willing to pay a little more for organic food but are not willing to go out of their way to purchase organic food. This segment is probably more oriented to traditional tastes and the organic food must be provided to them in the convenient form at the supermarkets they frequent. The last group is composed of consumers that are single and young. They are interested in the environment but organic may or may not be on their radar as a factor leading to improvement of the environment. It is important to note that for the grains and oilseeds sector, the export market is also an important alternative. Thus, in the case of grains part of the US production is exported to Europe, UK being the major importer. In the case of soybeans the major importer is Japan, and these imports, as pointed out by Bertransen and Dobbs[l], have important effects on the price premiums between organic and conventional soybeans in the US. Another information about the demand for grains and oilseeds comes from Welsh [17]. He quotes O'Neil, who interviewed nine grain millers and eight manufacturers of grain-and-soy-based foods in 1997, to discern the potential for organic grains as an economic opportunity for U.S. farmers. She found that the organic grain market has been growing 10 to 20 percent annually and should continue to do so. Some of the interviewed persons believed that demand for organic grain would double or triple in the next few years. For instance, organic soybean markets were expected to continue its growth fueled by medical research in the benefits of soy-based foods. She also determined that markets are developing for organic grain by-products such as corn syrup, alcohol, germ, and bran, and the demand is increasing for organic livestock feed. [17]
57
2.3
Marketing issues
The market for organic foods is changing rapidly with US sales of organics growing at over 20 percent a year. Conventional processors are looking at organic foods as an attractive niche. The purpose of this section is to provide information about the characteristics of the marketing process at the farm level and at the processing firm level, and also about the price premiums observed for organic raw materials and for processed products. 2.3.1
Marketing of raw materials
The small scale operations related to the production of organic products in comparison with conventional products create problems for the matching of buyers and purchasers. In this sense, organic farmers, in the absence of traditional marketing channels, have to create their own network to market their product. According to Born and Sullivan [2], marketing organically produced grains is different than marketing conventional grains. While for the latter farmers can move their entire crop to elevators, in the case where the marketing of organic production is done usually by means of contracting with a specific buyer. In this sense, the organic market consists of a multitude of buyers with individual supply needs, from small to very significant quantities. This is also the situation for the marketing of soybeans [5]. It is important to note that under the described situation the marketing skills required by organic producers are somewhat different as well. While conventional grain producers can increase their returns by taking advantage of market fluctuations, organic producers tend to get better returns by taking advantage of knowledge, experience, and relationships. Thus, experienced producers know where markets are, know how to negotiate, and have established themselves as reliable suppliers through long-term relationships with buyers [2]. Table 3 presents the main channels for the marketing of grains and oilseeds. Table 3. Marketing chain for organic grains and oilseeds
Farmer - cooperative - cleaner - manufacturer - distributor Farmer - cleaner - manufacturer - distributor Farmer - cooperative - cleaner - broker - manufacturer - distributor Farmer - marketing agent (often contracts with farmer, and cleans) - manufacturer Farmer - cooperative - processor of feed grain - distributor - livestock producer Farmer - processor of feed grain - distributor - livestock producer Source: Dimitri and Greene [4]
58
2.3.2
Marketing of processed products
There are two basic channels for processed goods as shown in table 4. In the first case a distributor who acts as a middleman, moves processed products from manufacturer to retailers. In the second scenario, the manufacturer moves the products directly through to retailers [4]. One aspect that increases the cost of marketing organic products in general is to transport the processed good through the chain avoiding any kind of contamination. Table 4. Marketing chain for processed products
Farm - manufacturer - wholesaler - retailer Farm - shipper/procurer - manufacturer - wholesaler - retailer Source: Dimitri and Greene [4] It is important to note that not only are more conventional manufacturing firms expanding their operations into the production of organic goods but organic associations are also joining conventional supermarkets to promote organic products. An example of this effort is the campaign between Organic Alliance (St. Paul, Minnesota) and the national supermarket chains A&P and Kroger, Co. According to Dimitri and Greene [4], in the year 2000 more organic food was purchased in conventional supermarkets than in any other venue. That is, nearly half of the US$ 7.8 billion spent in organic foods was purchased in conventional retail outlets. As shown in table 5, except for purchases of organic oil, conventional stores represent a significant share of the sales. Table 5. Shares of selected processed organic food sales by venue 1/ (%)
Pasta Health/Natural food store Conventional store
Cereal 59 41
Oil 64 31
Soy 75 11
21 77
Notes: 1/ The percentages do not sum 100 due to sales in other venues not included. Source: Dimitri and Greene [4].
With respect to futures trends in the marketing costs of organic processed products, Greene and Dobbs [8] point out that organic processors seemed attuned to industry trends and had potential expansion plans ready. 2.3.3
Price premiums in raw material and processed products
Table 6 presents information on the premiums paid for organic corn, soybeans, wheat, and oats. Prices for these commodities are consistently higher than their conventionally grown counterparts.
59
According to Bertransen and Dobbs [1], unlike the case of other commodities, changes in organic soybean prices did not tend to mirror changes in conventional soybean prices. According to them, this may be attributed to the strong influence of the Japanese market on the demand for organic soybeans. It is important to note that although the table shows significant price premiums for all the crops, farmers can not always sell their organic products at premium prices. These prices can vary widely from one year to the next, and thus a rapid and substantial expansion in organic acreage of particular crops could cause prices to decline. Born and Sullivan [2] point out that organic premiums are unstable because the organic market, like all specialty markets, is small and easily oversupplied. Table 7 presents information about price premiums for processed products. In contrast to table 6, which accounts for several years of data, premiums in table 7 correspond only to one month, July 2003; therefore, they should be considered only as referential. Table 6. Price premiums for selected organic grains and oilseeds 1995-2002 (US$/Bushel) 1995 1996 1997 1998 1999 2000 2001 2002 Com Price Conventional Organic Absolute premium Relative premium
2.38
3.49
2.30
1.90
1.61
1.61
1.65
1.96
3.46 1.08
5.06 1.57
4.50 2.20
4.16 2.26
3.74 2.13
3.51 1.90
3.01 1.36
3.96 2.00
45.38
44.99
95.65
118.95
132.30
118.01
82.42
102.04
1.54
1.95
1.66
1.25
1.07
1.18
1.45
1.99
1.97 0.43
3.17 1.22
2.96 1.30
2.43 1.18
2.04 0.97
2.00 0.82
2.00 0.55
3.64 1.65
27.92
62.56
78.31
94.40
90.65
69.49
37.93
82.91
(%) Oats Price Conventional Organic Absolute premium Relative premium
(%)
60 Table 6. (cont'd) Soybeans (Clear Hilum, cleaned) Price 3.49 2.38 Conventional Organic 3.46 5.06 1.57 Absolute 1.08 premium 45.38 44.99 Relative premium
2.30
1.90
1.61
1.61
1.65
1.96
4.50 2.20
4.16 2.26
3.74 2.13
3.51 1.90
3.01 1.36
3.96 2.00
95.65
118.95
132.30
118.01
82.42
102.04
(%) Spring wheat Price Conventional Organic Absolute premium Relative premium
4.17
4.92
3.74
3.28
2.86
2.79
2.93
3.50
6.09 1.92
7.67 2.75
6.49 2.75
5.69 2.41
5.49 2.63
5.72 2.93
5.75 2.82
5.54 2.04
46.04
55.89
73.53
73.48
91.96
105.02
96.25
58.29
(%) Source: Based on Streff and Dobbs [2003] Table 7. Price premiums for organic processed products, July 2003
Product Flour Unbleached white White Whole wheat - all purpose Whole wheat - pastry Whole wheat - bread Buckwheat Rye Soy Pasta Alphabet Noodles Couscous (whole wheat) Elbows Lasagna Linguine Spaghetti
Unit
Prices (US$) Organic Conventional
Premiurn %
lLb. lLb. lLb. lLb. lLb. lLb. lLb. lLb.
2.13 1.32 1.25 1.28 1.32 1.95 1.95 1.95
0.54 0.54 0.54 0.38 0.32 1.13 0.54 1.14
295.9 145.4 132.3 238.6 315.1 73.3 262.5 71.5
lLb. lLb. lLb. ILb. lLb. ILb.
2.19 2.55 2.39 2.49 2.99 2.09
0.49 2.15 0.66 1.49 0.99 0.99
346.9 18.6 260.3 67.1 202.0 111.1
61 Table 7. (cont'd) Bread Whole Wheat 1 Lb. 1.99 1.79 Oil Canola 0.24 0.04 1 Oz. Fl. Soybean 0.13 0.06 1 Oz. Fl. Sunflower 0.23 0.03 1 Oz. Fl. Safflower 0.36 0.09 1 Oz. Fl. 0.16 Extra virgin olive 0.77 1 Oz. Fl. Animal feed 0.18 0.06 Whole com lLb. 0.17 Whole oats lLb. 0.11 Source: Own elaboration, based on prices for organic products quoted in the Internet and prices for similar conventional products quoted in Kroger Co.
11.2 446.0 115.1 636.3 287.3 383.9 218.2 50.0
Although all the selected processed products present a price premium for organic products, the range of variation is high, going from 11 percent for the whole bread to 446 percent for sunflower group. Among all the selected groups, oil is the one that presents higher premiums (all of them above 100 percent). While the difference in price may be explained by the higher cost of the main organic raw material, certainly, one should consider also other costs associated with marketing and processing organic products.
3
Modeling the Interaction of Organic and Conventional Markets
To analyze the expansion of organic agriculture due to several factors, we require a model that captures the interaction of organic and conventional markets for the case of grains and oilseeds. Let us consider the following simple model. There are two representative consumers (named 1 and 2). While consumer type 1 only consumes organic foods, consumer type 2 may consume both organic and conventional foods. In addition, consumer types have the following utility functions, where Q°and Q c are the quantities consumed of organic and conventional good, and §'s and i)/s are utility function parameters. U 1 (Q)=o-Q°-f^i-Q o 2 U 2 ( Q ) = VO ( Q ° + Q v
C
W Vi -Q° 2 + 2^2
Q°
Q c +M>3 -Q c 2
' v J Under the usual assumption for partial equilibrium analysis that the consumers' income is large enough, one can obtain the demand for each good for each
62
consumer by solving the following maximization problem, where P is the price of the organic product and P the demand for the substitute conventional product. Max B = U J ( Q ) - P 0 Q ° - P Q°,Q C
C
Q
C
i = 1,2
The demands derived from the previous problem are for demands for the final processed products and not the demands that the farmers face (i.e., raw material demand). In addition, in order to compute the aggregate demands we will assume that there are N consumers of type 1 and N consumers of type 2. To derive the supply of the processed good and the derived demand for raw material let us assume the following production function for the processed good industry. The quasi-fixed proportion production function has been intensively used to modeling processing industries, see for instance, Huang and Sexton [12] ;
M'
K
, •
Q ' ^ m i n — ,K 0 , r L ^
i = 0,C
where A.j represents the technical coefficient that gives the requirement of input M1 to produce one unit of the final processed product. L is the other factor of production (assumed a composite production function) and K oi and K I ; are parameters. Assuming that r is the return to the composite factor L (exogenous to the industry), P f l is the price paid to the farmer, it is possible to compute the supply of processed goods and the derived demand for the raw material by solving the following problem: l 1
Max^P^-r-^-'' '* -P^-VQ1 Q!
K
i = 0,C
o,i
To close the model we need to model the supply for the farm product (i.e., raw material for the processed good industry). We will assume that the farmer faces quadratic variable costs, where 9's are positive parameters and CFl is the fixed cost for producing good i. The farmer solves the following problem to find the optimal yield per acre (i.e., Y1): M a x ^ P ^ - Y ' - C ^ - e o j Y 1 - - ^ YM Y'
2
i = 0,C
v ;
To compute the aggregate supply we will assume that A c acres are planted with the conventional product and A 0 with organic product. Certainly, it is possible to make the acreage decision endogenous as a function of the profit per acreage. However, given the scarce statistical information available, it is better to consider it as simulation variable. Finally, solving the consumer, the industry and the farmer's
63
problems it is possible to compute the quantities demanded and supplied, and prices for conventional and organic, processed and farm products. 4
Marketing Margins and Price Premium of Organic Products
This section uses the previous model to analyze the effect of changes in some variables on marketing margins (i.e., farm to retail price margins) and on the price premium of organic products with respect to conventional at the farm and processed level. We analyze the effect of (1) an increase in area planted with organic products; (2) a reduction in the costs of organic farming; (3) a reduction in the costs of processing organic products, and (4) an expansion of the non-typical demand for organic products (i.e., increase in the number of consumers that purchase both organic and conventional products). It is important to mention that the following simulations should not be considered forecasts but exercises of comparative statics. I calibrated the model parameters for the wheat market and for the production of flour. These parameters correspond to the utility function, technology, and farming costs parameters. In the absence of information about the organic wheat industry, information about the conventional wheat industry from Heid [11] was used. The goal in the calibration process was to reproduce the observed price premiums for wheat and for flour. Although I only simulate the wheat-flour case, this simulation may be considered informative for the other products, too. Table 8 presents the simulation results. The first two simulations, which are related to fanning organic products, indicate that organic production can continue expanding at a high rate without this affecting the price premium received with respect to the conventional products. This is due to the premiums that some consumers are willing to pay for organic products and to the small size of the production of organic products in relation with their similar conventional crops.
Scenarios
Table 8. Effect of different variables on marketing margins and price premiums Percentages Marketing Margins 1/ Org./Conv. Price Premium Organic Conventional Farm Level Retail Level
Baseline Simulations 1. Increase in organic acreage 2/ By 30 percent 60 percent
158.3
.. ..
29.4
58.3
216.0
.. ..
58.2 58.2
215.9 215.8
64 Table 8. (cont'd) 2. Decrease in org. farm costs By 30 percent 60 percent 3. Decrease in org. proc. costs By 30 percent 60 percent 4. Expansion of non-typical demand 3/ By 10 percent 20 percent
.. .. 80.8 3.3 .. ..
.. .. 29.4 29.4 .. ..
58.3 58.2
215.9 215.9
126.1 295.5
215.9 215.8
52.4 47.4
204.2 194.2
Notes: ".." means no change with respect to the baseline scenario 1/ Baseline marketing margins are from the model, in the absence of statistical information. 2/ Total acreage remains the same, and new organic farmers are farmers adopting organic practices. 3/ Demand from consumers that may purchase both organic and conventional products.
Decreasing the processing costs for producing organic products and expanding the non-typical demand for organic products, have more substantial effects on marketing margins and price premiums. Decreasing the processing cost of the organic flour industry reduces the marketing margin for organic flour. This expands the demand for organic wheat, increasing the organic wheat price and the price premium withrespectto the conventional wheat. Finally, expansion of the non-typical demand for organic flour increases the consumption of both organic and conventional products,resultingin a decrease in the price premium of organic wheat and flour with respect to the conventional ones. 5
Final Remarks
The organic grain and oilseeds markets have been growing at a fast pace and they would probable continue do so in the future. Available evidence points out that there is an important potential demand for organic products, although, in contrast to the initial demand for organic products, this demand seems to be not only interested on the "organic" attribute but also on the product presentation, flavor, etc (i.e., cosmetic characteristics). In addition, there is an important potential foreign demand for both grains and oilseeds and for their processed products. On the supply side, the trend seems to be an increasing entry of mainstream companies in the production of organic products and the expansion in the variety of organic products offered by these firms. With respect to the marketing margins in the organic processing industry, evidence seems to point out that they are higher than in the conventional processing industry. The main factors seem to be the small operation scale of organic processors and the costs associated with handling organic raw materials (e.g., avoiding contamination with non-organic products). In the absence of statistics, or at least detailed case studies, it is difficult to precise whether the observed
65
maiketing margins in the organic industry reflect above normal profits or just higher costs. However, if the latter is the right scenario, as the organic industry expands, marketing margins should tend to decrease, as more marketing infrastructure for organic products (e.g., elevators and plants dedicated only to organic products) is created. It is important to acknowledge that if the grain and oilseed processed organic industry expands, a major constraint would be the availability of raw materials of homogenous quality and prompt delivery as required by manufacturers. In this sense, one should expect more manufacturers engaging in production contracts to secure them a steady supply of raw material, and to see price premiums paid to farmers to motivate them to adopt organic farming practices. References 1. Bertransem, S. K. and Dobbs, T. L., Comparison of Prices for 'Organic' and 'Conventional' Grains and Soybeans in the Northern Great Plains and Upper Midwest: 1995 to 2000, Economic Pamphlet 2001, June (2001). 2. Born, H. and Sullivan, P. Marketing Organic Grains. Current topic, Appropriate Technology Transfer for Rural Areas, February (2002). 3. Dimitri, C. and Richman, N. J. Organic Foods: Nice Marketers Venture into the Mainstream. Agricultural Outlook, June/July (2000). 4. Dimitri, C. and Greene, C. Recent Growth Patterns in the U.S. Organic Foods market. U.S. Department of Agriculture, Economic Research Service, Market and Trade Economics Division and Resource Economics Division. Agriculture Information Bulletin 777, September (2002). 5. Dix, K., Farming without Chemicals in Ohio, Innovative Farmers of Ohio. August 22 (2000). http://www.ifoh.org/introduction.htm 6. Glaser, L. K. and Thompson, G. D. Demand for Organic and Conventional Frozen Vegetables. Selected paper to be presented at the American Agricultural Economics Association Annual Meeting, August 8-11, Nashville, Tennessee, (1998) 7. Greene, C , U.S. Organic Agriculture Gaining Ground. Agricultural Outlook, April (2000), pp. 9-14. 8. Greene, C. and Dobbs, T., Organic Wheat Production in the United States: Expanding Markets and Supplies, Wheat Yearbook, USDA, March (2001). 9. Greene, C. and Kremen, A. U.S. Organic Farming in 2000-2001: Adoption of Certified Systems. US Department of Agriculture, Economic Research Service, Resource Economics Division. Agriculture Information Bulletin 780, February (2003). 10. Harper, S., Organic Processed Food Future Trends in the United States. Mimeo, (2000).
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11. Heid, W. G. Jr. U.S. Wheat Industry. USD A-Agricultural Economic Report 432, April (1980). 12. Huang, S. and Sexton, R. J., Measuring Returns to an Innovation in an Imperfectly Competitive Market: Application to Mechanical Harvesting of Processing Tomatoes in Taiwan, American Journal of Agricultural Economics, 78 (1996) pp. 558-71. 13. NASS-USDA, Crop Production-Acreage-supplement, Accessed July (2003), Webpage: http://jan.mannlib.cornell.edu/reports/nassr/field/pcp-bba/ 14. Smolik, J. D., Dobbs, T. L., and Rickerl, D. H. The relative sustainability of alternative, conventional and reduced-till farming system, American Journal of Alternative Agriculture 10(1995) pp. 25-35. 15. Streff, N. and Dobbs, T. L. Prices of Crop Products Grown Organically in the Northern Plains and Upper Midwest, Economic Commentator, April 4, 437, (2003). 16. The Natural Marketing Institute (NMI). The 2002 Organic Consumer Trends Report. October (2002). 17. Welsh, R. The Economics of Organic Grain and Soybean Production in the Midwestern United States, Policy Studies Report No. 13 Henry Wallace Institute for Alternative Agriculture. May (1999).
67
CURRENT STATE OF THE ART OF LEGISLATION AND MARKETING TRENDS OF ORGANIC FOODS WORLDWIDE
IOANNIS S. ARVANITOYANNIS University ofThessaly,
Dept of Crop Production and Agricultural
Fytokou Street, Nea Ionia Magnesias, E-mail:
384 46, Hellas
Environment
(Greece)
[email protected] ATHANASIOS KRYSTALLIS National Agricultural
Research Foundation
National Institute of Agricultural 5, Parthenonos E-mail:
(N.Ag.Re.F.),
Economics and Rural
Str., Athens 141 21, Hellas
Development
(Greece)
[email protected] The growth of and interest in organic agriculture has emerged due to various problems encountered (health problems owing to pesticides, hormones, environmental problems brought on by to pesticides, decreasing biodiversity, threatened food security) which researchers hope to solve. Regulation EEC 2092/91 provided the organic farming sector with a means of asserting its special character and giving the credibility it required to take its place on the market for foodstuffs. Labelling and advertising of a food product may bear indications referring to organic production methods in the sales description only where at least 95% of the ingredients of agricultural origin are organic. Products with an organic content of 70% to 95% may bear indications referring to organic production methods only in the list of ingredients but not in the sales description. Regarding the socio-demographic profile of the organic product buyers, most studies agree that it is mainly women, who buy larger quantities and more frequently than men. Slight differences between gender groups are observed as regards their willingness to pay. The age factor does not seem to play an important role either, with the younger seeming slightly more willing to buy (more and expensive) due to their greater environmental consciousness. This willingness, however, does not translate into demand due to their lower purchasing power. On the other hand, the presence of children in the family seems to play an important role, positively influencing organic purchase. Despite high price premiums for organic food, higher household incomes do not necessarily indicate higher likelihood of organic purchases. Some lower income segments seem to be more entrenched buyers. Although there is conflicting evidence, those who are more likely to buy organic generally are female, in younger age groups, with higher levels of education and income, or families with children.
68
1
The Emergence of a New Kind of Farming: Different Approaches
Organic farming has been the outcome of theory and practice since the early years of the 20th century, involving a variety of alternative methods of agricultural production, mainly in northern Europe. There have been three important movements: • Biodynamic agriculture, which appeared in Germany under the inspiration of Rudolf Steiner; • Organic farming, which originated in England on the basis of the theories developed by Albert Howard in his Agricultural Testament (1940) and • Biological agriculture, which was developed in Switzerland by Hans-Peter Rusch and Hans Muller. Despite some differences in emphasis, the common feature of all these movements, which are the source of some of the terms protected by Community rules, is to stress the essential link between farming and nature, and to promote respect for natural equilibrium. They distance themselves from the interventionist approach to farming, which maximises yields through the use of various kinds of synthetic products. Despite the vitality of these movements, organic farming remained undeveloped in Europe for many years [1]. Organic farming differs from other farming systems in a number of ways. It favours renewable resources and recycling, returning to the soil the nutrients found in waste products. Where livestock is concerned, meat and poultry production is regulated with particular concern for animal welfare and by using natural foodstuffs. Organic farming respects the environment's own systems for controlling pests and disease in raising crops and livestock and avoids the use of synthetic pesticides, herbicides, chemical fertilisers, growth hormones, antibiotics or gene manipulation. Instead, organic farmers use a range of techniques that help sustain ecosystems and reduce pollution [2]. It was only in the 1980's, that organic farming really took off, when the new production method continued to develop, along with consumer interest in its products, not only in most European countries, but also in the United States, Canada, Australia and Japan. There was a major increase in the number of producers, and new initiatives got under way for processing and marketing organic products. This situation conducive to the development of organic fanning was very largely due to consumers' strong concern to be supplied with wholesome, environment friendly products. At the same time, the public authorities were gradually recognising organic farming, including it among their research topics and adopting specific legislation (e.g. in Austria, France and Denmark). Some Member States also grant national or regional subsidies to organic farmers.
69 However, despite all these efforts, organic farming was still hampered by lack of clarity: consumers were not always sure about what was really covered by organic farming, and the restrictions it implied. The reasons for the confusion lay, among other things, in the existence of a number of different "schools" or "philosophies", the lack of harmonised terminology, the non-standard presentation of products and the tendency to blur the distinctions between concepts such as organic, natural, wholesome and so on. The situation was not helped by cases of fraudulent use of labelling referring to organic methods [1]. Since 1999 the Global Codex Alimentarius of the FAO also covers organic agriculture. The Codexguidelines are intended to guide and promote the establishment of definitions for organic agriculture and requirements for organic food labelling, to assist in their harmonisation, and in doing so, to protect consumers and to facilitate international trade [3]. To define the concept of organic farming, one may refer to the definition developed by the Codex Alimentarius, on the basis of contribution from experts from all over the world. According to the Codex, organic farming involves holistic production management systems (for crops and livestock) emphasising the use of management practices in preference to the use of off-farm inputs. This is accomplished by using, where possible, cultural, biological and mechanical methods in preference to synthetic materials [4]. The Codex guidelines specify that an organic production system is designed to: • enhance biological diversity within the whole system; • increase soil biological activity; • maintain long term soil fertility; • recycle wastes of plant and animal origin in order to return nutrients to the land, thereby minimizing the use of non-renewable resources; • rely on renewable resources in locally organised agricultural systems; • promote the healthy use of soil, water and air as well as minimise all forms of pollution that may result from agricultural practices; • handle agricultural products with emphasis on careful processing methods in order to maintain the organic integrity and vital qualities of the product at all stages; • become established on any existing farm through a period of conversion, the appropriate length of which is determined by site-specific factors such as the history of the land, and type of crops and livestock to be produced [5].
70
2
Legislation and Labelling
The European Community adopted a legal framework (Regulation (EEC) No 2092/91) in the early 1990s. The movement towards official recognition of organic farming later spread to several other countries, and was followed by international initiatives. Since Regulation (EEC) No 2092/91 did not include any standards for livestock it was further supplemented by Regulation (EC) No 1804/1999. As a consequence of this amendment, the following products were covered; unprocessed agricultural crop products intended for human consumption, livestock and unprocessed livestock products, feeding stuff [6]. Labelling and advertising may refer to organic production methods only where they make it clear that the information relates to a method of agricultural production. The product concerned must comply with the provisions of Regulation (EEC) No 2092/91. Moreover, the operator must be subject to the inspection measures laid down in the Regulation, and the name and/or code number of the inspection authority must be indicated. The rules on indications referring to organic production methods stipulate the minimum percentage of agricultural ingredients that must be of organic origin. Labelling and advertising of a food product may bear indications referring to organic production methods in the sales description only where at least 95% of the ingredients of agricultural origin are organic. Food products may thus contain up to 5% of ingredients produced by conventional methods as long as those ingredients are not available (e.g. exotic fruit) or in very short supply on the Community organic market. Part C of Annex VI to Regulation (EEC) No 2092/91 lists the ingredients concerned. Products with an organic content of 70% to 95% may bear indications referring to organic production methods only in the list of ingredients, but not in the sales description. The percentage of ingredients of organic origin must be specified. Where the ingredients of organic origin represent less than 70% of the content of a product, the labelling and advertising may not bear any reference to organic production methods. Community rules do, however, provide a possibility for referring to the conversion period [1]. The current labelling in the US has several similarities to the EU legislation and is provided synoptically in Table 1.
71 Table 1. Labelling Consumer Product Packages. Labelling category "100 percent Organic" (Entirely organic; whole, raw or processed product) "Organic" (95%or more organic ingredients)
"Made with Organic ingredients
" (70 to 95% organic ingredients)
Less-than 70% organic ingredients
3
3.1
Principle display panel "100 percent organic"(optional)
Information panel "100 % organic"(optional)
USDA seal and certifying agent seal(s) (optional)
Certifying agent name (required); Business/Internet Address, tel. (optional)
"Organic" (plus product name) "X% organic" (optional) USDA seal and certifying agent seal (S) (optional) 'Made with organic (ingredients or food group(s))" (Optional) "X% organic" (Optional) Certifying agent seal of final product handler (optional) Prohibited: USDA seal
"X% organic" (Optional)
Prohibited: Any reference to organic content of product Prohibited: USDA seal &certifvine agent seal
Certifying agent name (required); Business/Internet Address,(optional) "X% organic ingredient" (Optional) Certifying agent name (required); Business/Internet Address, tele. # (Optional) Prohibited: USDA seal
Ingredient statement If multi-ingredient product, identify Each ingredient as "organic" (optional)
Identify organic ingredient as "organic" (required if other organic labelling is shown) Identify organic ingredient as "organic" (required if other organic labelling is shown)
"X% organic" (Optional)
Identify organic ingredient as "organic"(optional
Prohibited: USDA seal & certifying agent seal
)
Other package panels "100 percent organic"(optional
) USDA seal and certifying agent seal(s) (optional)
"X% organic" (Optional) USDA seal and certifying agent seal (S) (optional) 'Made with organic (ingredients or food group(s))" (Optional) "X% organic" (Optional) Certifying agent seal of final product handler (optional) Prohibited: USDA seal Prohibited: USDA seal & certifying agent seal
Required if % organic is displayed)
Brief Reports on Organic Demand in International Markets
World organic demand
Demand for organic products around the world is at an all-time high. According to the International Trade Centre (ITC) of the United Nations Conference on Trade
72
and Development and the World Trade Organisation (WTO), retail sales of organic food by major market countries (the US, Europe and Japan) totalled $20 billion in 2000 [7], and exceeded $26.5 billion in 2001, incurring a 23% increase from the previous year (Organic Monitor, in [8]). From these sales, 46% take place in Europe, 37% in North America, 16.5% in Asia and only 1% in Australia. According to modest forecasts, organic retail sales are expected to exceed $82 billion by the year 2008. The world average yearly increase rate will approach 17%, with Europe still leading with 43% market share. However, the largest increase rate is expected in the heavily export-oriented producing countries of Australia and New Zealand, in which half of the world organic production already takes place [8]. Key factors that affect consumer demand for organics include awareness and knowledge of organics, motivation, willingness to pay and availability. In general, consumers of organic products are affluent, educated and health-conscious. Some consumers prefer organic food grown locally and avoid imported products, and others are indifferent to the source. In some markets, organic products are sold through small local specialty markets but in others, organic products sit in supermarket shelves next to conventional products, available to a wide cross section of consumers. The number of organic products is proliferating and today there is an organic version of nearly every conventional commodity and processed food item. Some of today's time-pressed organic product consumers crave convenience and variety, and mainstream retailers who strive to meet consumers' preference for onestop shopping require a steady and reliable supply of organic products.
3.2
Organic demand in the US— the profile of the US organic consumer u
In an effort to achieve more balanced health and nutrition, a growing number of US consumers are turning to organic products. The organic industry has grown from an average of $6 billion in revenue in 1999 to $7.8 billion in 2000. Sales of US manufactured organic products grew 38% during the year 2000. This rate far surpassed the estimated 20-25% annual growth for the organic market in general and the conventional grocery industry's annual growth of 3-5%. The fastest-growing food categories between 1999 and 2000 were soy-based foods and other meat/dairy alternatives (215% growth), meat, poultry and eggs (64% growth) and dairy (40% growth). Continued growth was also projected at an overall rate of 38% from 2000 to 2001. New products are being introduced rapidly. For example, over 800 new organic products were introduced in the first half of 2000. Desserts made up the majority of new products in 2000, while most new products introduced in 1999 were beverages. However, fresh produce remains the top-selling organic category ($2.2 billion sales in 2000), followed by non-dairy 2
Data from "New Market Surveys on Organic Food", available at [9], [10] and [11].
73
beverages ($1 billion), breads and grains ($800 million), packaged foods such as frozen and dried prepared foods, baby foods, desserts and soups ($650 million) and dairy products ($550 million). Markets for organic flowers, fibres and other agricultural products have also been developing in recent years. Most organic herbs and flowers (excluding those used as an intermediate good) are sold locally and direct to the consumer, through internet sales, subscription programs or farmers' markets. Markets have been developed for organic cotton and are emerging for rayon, linen and other fibres. Organic food is sold to consumers through three main venues in the US: natural food stores, conventional grocery stores, and direct-to-consumer markets. One of the most dramatic changes since 1998 was the shift to mass-market channels: less than half (49%) of organic food manufacturers' products moved through health and natural food stores, down from 62% in 1998. Mass-market groceries, meanwhile, accounted for 45% of organic food product sales in 2000, compared to only 31% of the year 1998. Farmgate, wholesale and retail price data have indicated substantial organic premiums for fruits, vegetables and milk over the last decade. Monthly farmgate price premiums for several major fruits and vegetables consistently exceeded 100% between 1992 and 1996. Supermarket scanner data showed similar results for frozen vegetables during this period, as well as a 60% premium for organic milk over conventional milk brands from 1997 to 1999. Organic grain and soybean crops also enjoyed substantial price premiums during the 1990s, exceeding 50% for corn, soybeans, wheat and oats during 1993-99. Price premiums are also found of about 34% at the retail level for clothing made from organically grown cotton in 1996. Conventional and organic grain prices have both fallen since 1999, but organic prices still carry a substantial premium over conventional prices. Supermarkets have seen a steady rise in consumers seeking to achieve better nutrition and overall health. Many US consumers see organic products as being the most natural food available in stores and thus a sharp increase in their popularity was observed. While most used to view organic shoppers as a small group of individuals who were considered more nature-conscious, today's organic consumers comprise about one-third of all shoppers and represent nearly half of all grocery shoppers in stores that carry organic products. Organic and non-organic US shoppers both share and differ in their shopping preferences. However, the key-differences can be seen among organic consumers in the sense that: a) organic shoppers rank high-quality fruits and vegetables as the number one factor in choosing a primary grocery store, whereas non-organic shoppers chose a clean/neat store as their top factor; b) organic shoppers earn a high annual income and spend more money on groceries; c) organic shoppers are usually more educated. In addition, organic shoppers are likely to be women who work more than 20 hours per week and the largest percentage of these shoppers are between the ages of 25-39.
74
Organic and non-organic shoppers do share similarities in the planning of their grocery trips. They use newspaper and magazine circulars and compare prices at different stores. However, non-organic shoppers are more likely to cite low prices as a top factor in selecting a supermarket more often than organic shoppers do. This is perhaps because organic products generally are higher priced than non-organic products. Interestingly, organic shoppers remain loyal in their shopping habits, only visiting an average of 2.5 grocery stores a month. In comparison, non-organic shoppers visit an average of 3.1 stores in a month. Clearly, organic shoppers are much more likely to cite the availability and the broad selection of organic products to be the most important factor in selecting their primary supermarket. They also tend to be much more loyal to one store, indicating that retailers may want to pay particular attention to this group as it grows.
3.3
Organic demand in Europe13
Europe is a primary market for organic products with a total retail sales value reaching $13 billion in 2001, however it is not a uniform market. Not only are there differences in language, business customs, regulations, and consumer preferences, but the distribution and retail systems also vary, thereby affecting the availability of organic products. The European market is characterised by fast growth, the entry of major players into the organic marketplace, a wide range of product offerings, and consumers who are familiar with the concept of organics. The overall growth in the organic market for Europe is estimated at 15% per year. Conventional supermarket chains are gaining an increasing share of organic retail sales in some countries (Sweden -80%, UK -70%, France -50%), whereas in countries like Germany and the Netherlands organic retailing is less centralised, concentrated instead in smaller specialised organic shops and health food stores. 1. United Kingdom Compared to other European countries, the UK's organic market is lagging in its development, but the situation is dynamic. Demand is growing at 40% a year, outpacing supply, which is growing at 25% annually. In 2000, UK retail sales of organic products totalled about $900 million, up from $250 million in 1995. Fresh produce accounted for about 50% of the total; other important categories are cereal, baby food and dairy products. Typical consumers of organic products are individuals from the highly publicised food safety and environmental scares. Mainstream shoppers also are becoming interested in organics, and according to a recent report, one third of UK consumers buy organic food. Currently, almost 70% The following information about specific markets was gleaned from a variety of source including Foreign Agricultural Service of the US Department of Agriculture (FAS/USDA), found in [12]
75
of organic sales occur in supermarkets, a sector that is dominated by a relatively small number of large chains, some of which are investing in significant resources and working directly with domestic farmers to increase the supply of organic food. Despite subsidies to encourage producers to convert to organic production methods, the UK will likely remain heavily dependent on imports, which now account for about 70-75% of total organic food sales. 2. The Netherlands Organic products have been a bit slow to take off in the Netherlands, because of consumers' resistance to higher prices and the reluctance of mainstream supermarkets to offer organic products unless they can be priced competitively relative to conventional products. Organic products currently receive about a 20% premium in the market. Organic retail sales were estimated at $600 million in 2000. The Netherlands plays a pivotal role as a global trader and entry point to the EU for many food products, including organics. Many organic products landing in the Netherlands are re-exported to other markets in the EU. 3. Germany Germany is the largest market in Europe for organic food and the second largest in the world after the US. Organic product sales totalled about $2.5 billion in 2000. Nevertheless, this represents only about 1.75% of total German food sales and a fairly low per capita consumption level, compared to more developed organic markets in Europe, like Denmark and Sweden. Organic sales are estimated to rise in the medium term at about 10% annually. The most significant categories in demand include fresh fruit and vegetables, dairy products, bread and bakery products and baby food. Farm conversions to organic production have risen rapidly in recent years, making Germany self-sufficient in cereals, vegetables, milk and meat. Although the majority of organic foods are sold through small shops, large-scale retailers are carrying more products and that trend is expected to continue. 4. France Organics is still a niche market in France in terms of value, representing only 1.0% of total retail food sales compared to certain other EU countries. However, the market has been growing at a rate of 12% per year, and that rate is expected to reach 20% per year in the near term. In the year 2000, sales of organic food products in France are expected to reach $1.25 billion. Growing demand, coupled with a government initiative to stimulate domestic production and improve distribution, is expected to boost organic food sales to $2.6 billion by the year 2003. The range of organic foods available in France is still relatively limited. Major domestically produced organic products include grains, prepared cereals, dairy products, fresh and processed fruit and vegetables, baby food, meat and poultry.
76
About half of the organic food is sold through supermarket chains, and the rest is sold through health food stores, open-air organic food markets, and direct-toconsumer outlets. Retail prices for organic produce average 25-35% higher than conventional foods. 3.4
Organic demand in Asia
Asian countries can vary greatly in their approach to organic food consumption. The following Asian markets demonstrate a growing demand for organic products and somewhat less stringent import restrictions. For example, although Japan and Korea are strong markets for organic products, they have a more restrictive policy, posing a particular risk for marketing organic products (for example, if the product is fumigated, the price premium is lost because it cannot be sold as organic). 1. Taiwan About 1,000 small specialty stores and some supermarkets in northern Taiwan carry organic foods. Appealing first to people with special health needs, organic foods are now starting to attract the more affluent and educat6ed segments of the population. In 1999, two stores specialising in organic foods open in an area known as Taiwan's Silicon Valley. Further evidence that the organic sector is developing quickly was the establishment of a new organic food retailer last year, UniPresident Organics, the result of a partnership between Taiwan's largest food company and largest organic food importer/distributor. 2. Hong Kong - Japan Organic foods have been in demand in Hong Kong since the early 1990s. At first, the market expanded slowly, attracting mainly western and Japanese consumers, but more recently, many affluent, educated, health-conscious Chinese who have resided or been educated overseas are seeking organic products. In Hong Kong, organic food is still a relatively new concept. Most organic products are marketed as health food through specialty shops, but awareness is growing as consumers learn more about the diet-health connection, the controversy over GM food, and tiie latest trends from Japan, where organic food is in great demand.
77
4
4.1
Consumer Behaviour Towards Organic Food
The "Green " Consumer
Nowadays, environmental consciousness is not only an ideology of activists, but also a matter of "market competition" [13], which influences consumer behaviour [14]. Many consumers exhibit preferences for environmental amenities, either directly through polls or surveys, or indirectly, by participating in outdoor activities, environmental organisations or causes, or undertaking conservation, recycling, or other stewardship activities [15]. The knowledge of the "green consumer" is important for the whole food supply chain and especially for the retailers, since the environmental issues influence the purchase and nutritional decisions of 6 out of 10 consumers in the UK and US [16]. Since the early 90's many US polls have indicated that the percentage of consumers with a strong degree of environmental awareness ranges from 37-96% [15], from 70-90 percent [17], or, from 60% to 90% [14]. This is consistent with MTNTEL, which concludes that 27% of the British adults are prepared to pay up to 25% more for "green" products [18]. As a group, environmentally responsible products have obtained a market share between 20% and 30% in a number of retail product categories in the UK [14]. Teisl et al. (1999) [19], claim that the potential effect of an eco-seal varies significantly across individuals with different levels of education and environmental involvement. Further, the effect of the seal seems to be dependent on the type of other information available to the individual. Similarly, Tiilikainen and Huddleston (2000) [20], claim that environmentally concerned North American and European consumers have been usually characterised as higher income, young to middle aged, better educated, female (for a wider literature review on the profile of the "greens" see [21]). It is worth mentioning here the results of a survey by Davies et al (1995) [22]. They classified UK consumers according to their willingness to buy environmentally friendly products in "light green", "dark green" and "green of the armchair". The "dark greens" comprised 39% of the sample and were these who mentioned that actively seek to buy environmentally friendly products. They were mainly women with children, who are more influenced by quality rather by price and which are guided by the «green» specifications when they decide what to buy. Only a tenth of the consumers were not interested at all in the environment, without factors such as ignorance or confusion concerning the environmentally friendly products influencing their behaviour. The final conclusion was that the more earnest consumers of such products are women in the age between 35-44, of a higher socioeconomic and cultural level, who purchase at super markets and have children over 6 years old.
78
The growth of certification programs around the world also suggests a rise in consumer preference for a variety of environmentally friendly products, from apples [23] and seafood [24], to textile [25]. The need for industry to participate as a partner in this process has been widely endorsed both at the governmental level (e.g. World Commission on Environment and Development, 1987) and by firms' institutional bodies [26]. Reinhardt (1999) [27], suggests that managers should make environmental investments for the same reasons they make other investments: "because they expect them to deliver positive returns or to reduce risks". And Teisl et al. (1999) [19], point out that, from a business perspective, eco-labelling may allow firms that use environmentally preferred production methods to gain market share and maximise any value-added rents. Hence, "green" consumerism might be characterised as a shift in tastes in response to firms' marketing claims, stimulating an increase in the consumption of those products perceived as environmentally friendly, ceteris paribus. It is assumed to act as a driver to stimulate the "greening" of industry. However, in order for this to happen, it is a necessary condition that "green" consumers can, first, differentiate between competing products or processes on the basis of their environmental characteristics, and, secondly, that the market allows "green" consumers to reveal their preferences [26]. While enough attention has been paid to the general preferences for environmentally friendly products, Sriram and Forman (1993) [28] and Teisl et al. (1999) [19], claim that our knowledge regarding the nature and the degree of "sacrifice" that consumers are willing to make for this matter is limited. Blend and van Ravenswaay (1999) [23], argue that different opinion poll data do not account for economic factors such as prices and income that affect the demand for ecolabelled products, nor for the effect of variation in the attributes of eco-labels, such as how much environmental improvement is promised or whether it is certified by an independent third party. Also missing, until recently, has been the opportunity for consumers to cast meaningful votes in the market, to differentiate among products on the basis of environmentally sound production/management techniques. Because consumers cannot know how goods are produced, information problems may result in inefficiencies and social welfare loss [15]. As a result, Hussain (2000) [26], concludes that, even though most people consider environmental issues to be of significance, this does not necessarily translate directly into "green" consumerism. Although van Dam (1991) [29] proposed earlier that this is not necessarily inconsistent behaviour, since consumers might face trade-offs between environmental friendliness and other product attributes, there are also opposite opinions to environmentalism. Troy (1994, in [18]) argues that consumer purchases do not seem to reflect their intentions as measured by environmental surveys. Thompson and Kidwell (1998) [30], claim that the expected growth in the market share especially of fresh organic produce in US supermarkets failed to materialise in the early 90's as consumer concerns apparently did not translate into changes in purchasing behaviour. Peattie (1995) [31], suggests
79
that such observed differences are usually blamed upon an over-reporting of environmental concern and not purchase. Reinhardt (1999) [27], argues that environmental problems do not automatically create opportunities to make money. Simultaneously, the opposite stance -that it never pays for a company to invest in improving its environmental performance- is also incorrect. 4.2
Factors that affect consumer behaviour towards organic foods
One type of environmental and wider quality and health consciousness is the purchase of organic products. Growth in organic farming in the EU has consistently been around 25% per year for the past ten years [32] and similar expansion is reported in the US. As there is no indication of any change in the EU trend, the sector could expand from the 1998 level of 2% of the Utilisable Agricultural Area (2.8 million hectares and 113,000 holdings) to 10% by 2005 and 30%by 2010 [33]. This level of growth has tremendous implications for the provision of training, advice and other information to farmers, as well as for the development of certification procedures, thereformingof the whole supply chain and the need for a deep organic consumer knowledge. As the retail value of the EU sector should reach EURO 25-35 billion by 2005, the sector progresses from niche to mainstream. The retail sales value of organic food and beverages in Western Europe, the US and Japan was a total of US$ 10.5 billion in 1997, increased to 20 billion in 1999. Over this period, sales rose from US$ 4.2 to 8 billion in the US, 1.8 to 2.5 billion in Germany, .8 to 1.25 billion in France, .75 to 1.1 billion in Italy and .45 to .9 billion in the UK. A total of 130 countries are now producing certified organic food, 90 of which are developing ones, with ideal environmental and production conditions for the development of a satisfactory organic produce [32]. In the short to medium term, lack of supply will be the main problem rather than lack of demand. This could open up opportunities for producers and exporters in developing countries. Nevertheless, there is a number of potential risk factors: other forms of environmentally friendly and sustainable agriculture could provide stiffer competition in the future and it would be very dangerous to assume that producers will always have price premiums. On the other hand, most developing countries are still faced with a lack of technical know-how and market information, access and finance [32], with Greece being one of them. However, the more organic products become available, the more consumers anticipate that in the near future the organic "concept" will be similar to the conventional in terms of general philosophy [34]. In addition, the organic producer will tend more and more towards the model of the businessman [35]. Various studies concerning consumer behaviour vis-a-vis the organic products have been conducted since the mid '90s: a) in many Western European countries ([22], [36 - 52]),
80
b)intheUS([30], [53-57]) c) in Eastern European Countries ([58], [59], [60]), as well as in developing countries (e.g. Turkey: [61], [62]). Most of the above mentioned international studies have researched how consumers perceive the organic concept, the issues related to the demand for organic produce, consumers' attitudes and the factors that facilitate or hinder the acceptance of these products. They reveal that purchase motives are attributed to environmental/ethical concern, quality/health consciousness and exploratory food buying behaviour, as well as to specific product attributes such as nutrition value, taste, freshness, and price ([22], [36], [42], [44], [49], [50], [54], [63 - 67]). Some studies also reveal a variety of other purchase motives that seem to reflect national interests, such as "support to organic farmers" for the German consumers [42] or "animal welfare" for the British [68]. Not surprisingly, the main reasons cited by European retailers, including Greece, when marketing organic foods are health, environmental protection, taste and animal welfare, demonstrating a kind of market orientation towards organic food ([41], [46]). The reasons that account for a reversal in favourable attitude towards organic products are price and availability ([22], [36], [38], [42], [54], [69]), lack of some special value in the eyes of consumers ([36], [63]) and doubts about product guarantees, lack of promotion and misunderstanding of organic way of production in terms of its main goals [42]. Regarding consumers' willingness to pay extra for organic products, Davis et al. (1995) [22], mention initial studies that suggest a 5% premium in 1987, while they calculated it at about 30% in a sample of Irish consumers in 1995. Fotopoulos and Krystallis (2001) [70], argue that the Greek organic consumers of their countrywide sample expect to pay up to 63% (an increase from 19%) for a variety of food products including oranges, olive oil, raisins, bread and wine. Hutchins and Greenhalgh (1997) [37], note that approximately half of the consumers of thensample were willing to pay more for organic foods, the majority of which reaching levels of 10-20%. Meier-Ploeger and Woodward (1999) [68], claim that 52% of the German consumers of their sample were willing to pay more for organic fruits and vegetables, 34% for animal products and 39% for grain products. Zanoli (1998) [65], concludes that surveys generally underestimate the real amount of these premiums due to respondents' "free-riding" behaviour. In real market, final consumers often pay up to 300% premiums for organic purchases. On the other hand, it is true that willingness-to-pay results' validity is often depended on the measurement method followed. For instance, results generated by conjoint analysis are considered more realistic than those sourced from methods where consumers are directly asked for their willingness to pay, such as contingent valuation. In general, as societies move from the first stages of organic products' acceptance to more mature levels, a certain reversal of the non-purchase factors' importance is observed, from price to availability ([36], [49], [50]).
81
Regarding the socio-demographic profile of the organic product buyers, all the above studies agree that they are mainly women, who buy larger quantities and more frequently than men. Slight differences between gender groups are observed as regards their willingness to pay. Davis et al. (1995) [22], suggest that men would pay more at a percentage of 41% compared to 44% of women. The age factor does not seem to play an important role either, with people belonging to the younger age category seeming slightly more willing to buy (more and expensive) due to their greater environmental consciousness. This willingness, however, does not translate into demand due to their lower purchasing power. On the other hand, the presence of children in the family seems to play an important role, positively influencing organic purchase ([30], [52]), although more attention should be paid to the children's age as an organic purchase factor. Disposable income seems to affect mainly the quantity of organic products bought and not the general willingness to buy. However, despite high price premiums for organic food, higher household incomes do not necessarily indicate higher likelihood of organic purchases. Some lower income segments seem to be more entrenched buyers. Although there is conflicting evidence, those who are more likely to buy organic generally are female, in younger age groups, with higher levels of education and income [56], or families with children. It is worth noting that, according to Kyriakopoulos and Oude Ophuis (1997) [39], environmental, health and quality-consciousness that ignore the consumer as a moving force of competition risks to be static over time. To trace the views of Greek consumers on this matter is a challenge that can be a critical parameter of success. Innovative products based on consumers' needs and demands can be a solution, providing producers with clear directional lines concerning the preferences and motives of the «eco-product» purchasers. 5
Conclusions
Table 2 summarises the problems where organic agriculture may be a solution or part of a solution. It should be noted that there might be other solutions that could deliver the same results as those found for organic. One of the main features of organic agriculture is how well it integrates a number of important issues, which means that even if there are other solutions to each individual problem below, there is no other solution that to such a large extent, addresses most of the problems facing rural communities at the moment. Apart from 'problems to be solved' the most obvious reason for introducing organic production resides in consumers' demand which is currently on therise[71].
82 Table 2. Problems expected to be solved through the implementation of organic agriculture. (XXX= high relevance, XX= certain relevance andX= relevance depending on conditions) Solutions / Positive measures Relevance of organic Problems to be solved agriculture No use of chemical pesticides Health problems caused by XXX pesticides Antibiotics hormones etc. in Improved animal systems XXX animal husbandry causing Integrating animals and crops XXX health problems Meeting needs of animals XXX Alternative disease treatments XXX Environmental problems XXX No use of agrochemicals caused by agro-chemicals Pollution caused by animal Integration of animal and crop production XXX Reduced animal density/self-sufficiency of manure and organic waste animal feed products Falling bio-diversity in No use of agrochemicals XXX surrounding environment No GMO crops XXX Diversified production XXX Falling bio-diversity within Diversity and greater number of crops XXX agricultural production No use of agrochemicals X Farmers organisation Direct marketing Recycling of nutrients from society X (Depending on the quality of the waste products, awareness of society, cleaning processes etc)? Increase income in rural areas, and decrease Urban migration leading to XX money flow from rural areas poverty and slums Organisation, capacitation Local / regional development
Social and cultural degradation Threatened food security
Increase income in rural areas, and decrease money flow from rural areas Increase infrastructure and organisation of rural areas Vitalising old values or creating new values Increase self-reliance and status of rural areas and populations Increase production
Availability of production resources Increase income Stable production Decrease input dependency Increase diversity -less risk Soil improvement - more resilience Optimal use of local resources
XX
X
Long term higher, short time lower, depending on conditions 7
Depends on the conditions X (pests could cause fluctuations.) XXX XXX XXX
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(Food safety) (Food sovereignty)
Table 2. (cont'd) Limit un-safe food Increase consumer awareness Local production Local seeds Local inputs Increase consumer awareness
XXX XXX XX XX XXX XXX
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17. Chase, D. and Smith, T.K., Consumers Keen on Green but Marketers Don't Deliver, Advertising Age 29 (1992) pp. S2-S4. 18. Tilikidou, I. and Zotos, Y., Ecological Consumer Behaviour: Review and Suggestions for Future Research, Medit, 1 (1999) pp. 14-21, 19. Teisl, M. F. Roe, B. and Levy, A. S., Ecocertification: Why it May Not Be a Field of Dreams, Am. J. Agr. Econ. 81 (1999) pp. 1066-1071. 20. Tiilikainen, A. and Huddleston, P., Effect of Environmental Soundness on Consumers' Food Evaluation, and Willingness to Buy, J. Int. Food and Agribus. Marketing 11 (2000) pp. 23-43. 21. Rice, G. Wongtada, N. and Leelakulthanit, O., An Investigation of SelfEfficiency and Environmentally Concerned Behaviour of Thai Consumers, J. Int. Cons. Marketing 9 (1996) pp. 1-19. 22. Davis, A. Titterington, A.J. and Cochrane, C, Who Buys Organic Food? A Profile of the Purchasers of Organic Food in N. Ireland, Brit. Food J. 91 (1995) pp. 17-23. 23. Blend, J. R. and van Ravenswaay, E. O., Measuring Consumer Demand for Eco-labelled Apples, Am. J. Agr. Econ. 81 (1999) pp. 1072-1077. 24. Wessells, C. R. Johnston, R. J. and Donath, H., Assessing Consumer Preference for Eco-labelled Seafood: the Influence of Species, Certifier, and Household Attributes, Am. J. Agr. Econ. 81 (1999) pp. 1084-1089. 25. Nimon, W. and Beghin, J., Ecolabels and International Trade in the Textile and Apparel Market, Am. J. Agr. Econ. 81 (1999) pp. 1078-1083. 26. Hussain, S.S., Green Consumerism and Eco-labeling: A Strategic Behavioral Model, J. Agr. Econ. 51 (2000) pp.77-89. 27. Reinhardt, F.L., Bringing the Environment Down to Earth, Harvard Bus. Rev. 78 (1999) pp. 149-157. 28. Sriram, V. and Forman, A.M., The Relative Importance of Products' Environmental Attributes: A Cross-Cultural Comparison, Int. Marketing Rev. 10 (1993), pp. 51-70. 29. van Dam, Y.K. A Conceptual Model of Environmentally Conscious Consumer Behaviour (20th EMA Conference Proceedings, 1991, University College, Dublin). 30. Thompson, G.D. and Kidwell, J., Explaining the Choice of Organic Produce: Cosmetic Defects, Prices, and Consumer Preferences, Am. J. of Agr. Econ. 80 (1998) pp. 277-287. 31. Peattie, K. Environmental Marketing Management (Pitman Publishing, London, 1995). 32. AgraEurope, Euro-Organics '99 (AgraEurope Conference, London,). 33. Lampkin, N., From Niche to Mainstream for EU Organic Fanning. In EuroOrganics'99 (AgraEurope Conference Proceedings, London, November 26, 1999) pp. 8-10.
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34. Duram, L., Organic Agriculture in the US: Current Status and Future Regulation, Choices 2 nd Quarter (1998). 35. Dobbs, T.L, Price Premiums for Organic Crops, Choices 2nd Quarter (1998). 36. Roddy, G. Cowan, C.A. and Hutchinson, G., Consumer Attitudes and Behaviour to Organic Foods in Ireland, J. of Int. Cons. Marketing 9 (1996) pp. 41-63. 37. Hutchins, R.K. and Greenhalg, L.A., Organic Confusion: Sustaining Competitive Advantage, Brit. Food J. 99 (1997) pp. 336-338. 38. Latacz-Lohmann, U. and Foster, C , From Niche to Mainstream. Strategies for Marketing Organic Food in Germany and the UK, Brit. Food J. 99 (1997) pp.275-282. 39. Kyriakopoulos, K. and Oude Ophuis, A.M., A Pre-purchase Model of Consumer Choice of Biological Foodstuff, J. Int. Food Agribus. Marketing, 8 (1996) pp. 37-53. 40. Thompson, G.D., Consumer Demand for Organic Foods: What we Know and What We Need to Know, Amer. J. Agr. Econ. 80 (1998) pp. 1113-1118. 41. Michelsen, J. Hamm, U. Wynen, E. and Roth, E., The European Market for Organic Products: Growth and Development. In Dabbert, S. Lampkin, N. Michelsen, J. Nieberg, H. and Zanoli, R. (eds.) Organic Farming in Europe: Economics and Policy, (University of Hohenheim) Vol.7. 42. Worner, F. and Meier-Ploeger, A., What the Consumer Says", Ecology and Farming, IFOAM20 (1999) pp. 14-15. 43. Santucci, F.M. Marino, D. Schifani, G. and Zanoli, R., The Marketing of Organic Food in Italy, Medit 4 (1999), pp. 8-14. 44. Chryssochoidis, G., Repercussions of Consumer Confusion for Late Differentiated Products, Eur. J. Marketing 34 (2000) pp. 705-722. 45. Mangusson, M.K. Arvola, A. and Hursti, U.K., Attitudes Towards Organic Foods Among Swedish Consumers, Brit. Food J. 103 (2001) pp.209-226 46. Jones, P. and Clarke-Hill, C , Retailing Organic Food,. Brit. Food J. 103 (2001), pp. 358-365. 47. Wier, M. and Calverley, C , Market Potential for Organic Foods in Europe, Brit. Food J. 104 (2002) pp. 45-62. 48. Zanoli, R. and Naspettf, Consumer Motivation in the Purchase of Organic Food: A Means-end Approach, Brit. Food J. 104 (2002), pp. 643-653. 49. Fotopoulos, C. and Krystallis, A., Purchasing Motives and Profile of the Greek Organic Consumer: A Countrywide Survey, Brit. Food J. 104 (2002) pp. 232260. 50. Fotopoulos, C. and Krystallis, A., Organic Product Avoidance: Reasons for Rejection and Potential Buyers' Identification in a Countrywide Survey, Brit. Food J. 104 (2002) pp. 730-765.
86 51. Verdume, A. Gellynck, X. and Viane, J. Are Organic Food Consumers Opposed to GM Food Consumers, Brit. Food J. 104 (2002) pp. 610-623. 52. Soler, F. Gil, J.M. and Sanchez, M., Consumers' Acceptability of Organic Food in Spain: Results from an Experimental Auction Market, Brit. Food J. 104 (2002) pp. 670-687. 53. Estes, E. and Smith, K.V., Price, Quality and Pesticide-Related Health Risk Considerations in Fruit and Vegetable Purchases: An Hedonic Analysis of Tucson, Arizona Supermarkets, J. FoodDistr. Res. 27 (1996) pp. 8-17. 54. Reicks, M. Splett, P. and Fishman, A., Shelf Labeling of Organic Foods: Effects on Customer Perceptions and Sales. Working Paper 03-1997 (The Retail Food Industry Center, University of Minnesota, MN). 55. Reicks, M. Splett, P. and Fishman, A., Shelf Labeling of Organic Foods: Customer Response in Minnesota Grocery Stores. J. FoodDistr. Res. 30 (2001) pp. 11-23. 56. Govidnasamy, R. and Italia, J., Predicting Willingness to Pay a Premium for Organically Grown Fresh Produce, J. Food Distr. Res. 30 (2001), pp. 44-53. 57. Loureiro, M.L. and Hine, S., Discovering Niche Markets: A Comparison of Willingness to Pay for a Local (Colorado Grown), Organic and GMO-free Product, Paper Presented at the 2001 Annual Meeting of the American Agricultural Economics Association, Chicago, IL. 58. Kucharska, T. and Prus, P., Consumer Approach to Ecological Food Market in Poland - A Case Study, Paper Presented at the 72d EAAE Seminar, 7-10 June 2001, Chania, Greece. 59. Lubieniechi, S., The Romanian Consumer Behaviour Regarding Organic Food, Brit. Food J. 104 (2002) pp. 337-344. 60. Krmpotic, T. Musnaic, G. Ivancevic, S. and Birovljef, J., Consumer Behaviour and Attitudes Regarding Agricultural and Organic Food Products in Jugoslavia. Paper Presented at the 72d EAAE Seminar, 7-10 June 2001, Chania, Greece 61. Kenanoglu, Z. and Karahan, O., Policy Implementations for Organic Agriculture in Turkey, Brit. Food J. 104 (2002) pp. 300-318. 62. Rehber, E. and Turhan, S., Prospects and Challenges for Developing Countries in Trade and Production of Organic Food and Fibres: The Case of Turkey, Brit. Food J. 104 (2002) pp. 371-390. 63. Tregear, A. Dent, J.B. and McGregor, M.J., The Demand for Organicallygrown Produce, Brit. Food J. 96 (1994) pp. 21-25. 64. Grunert, C.S. and Juhl, J.H., Values, Environmental Attitudes and Buying of Organic Foods, J. Econ. Psych. 16 (1995) pp. 39-62. 65. Zanoli, R., The Economics and Policy of Organic Farming: the State of the Art, 4th ENOF Workshop Proceedings, Edinburg, 25-26 June 1998, pp. 57-68.
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66. Zotos, Y. Ziamou, P. and Tsakiridou, E., Marketing Organically Produced Food Products in Greece, Greener Manag. Int. 25 (1997) pp. 91-104. 67. Browne, A.W. Harris, P.J.C. Hofny-Collins, A.H. Pasiecznic, N. and Wallace, R.R., Organic Production and Ethical Trade: Definition, Practice and Links, Food Policy 25 (1997) pp. 69-89. 68. Meier-Ploeger, A. and Woodward, L., Trends Between Countries", Ecology and Fanning, IFOAM20 (1997) p. 15. 69. Sylverstone, R., Organic Farming: Food for the Future?, Nutr. Food Sc. 5 (1993) pp. 10-14. 70. Fotopoulos, C. and Krystallis, A., Defining the Organic Consumer and his Willingness to pay for Selected Food Products in Greece: a Countrywide Survey, Paper Presented at the 51st Atlantic Economic Society Conference, 1320 March 2001, Athens. 71. http: //www.ifoam.org/whoisifoam/generel.html
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MARKETING ORIENTATION AND ITS CONSEQUENCE FOR THE FOOD CHAIN JON HENRICH HANF AND RAINER KUHL Justus-Liebig-University
Giessen, Department
Chair of Food Economics and Senckenbergstr.
of Agriculture
Economies
Marketing
3
35390 Giessen Germany Email: ion.h.hanf0).aarar.uni-aiessen.de Ramer.KuehMi3iaarar.urihaiessen.de Agri - food markets have been undergoing a dramatic change. The former primarily seller dominated markets have been transformed to buyer-dominated markets. Buyer orientation results in a marketing orientation philosophy. Therefore organisations must have proper knowledge of their target markets, their customer focus groups and the driving forces of their business. The underlying concept is the marketing orientation as a core competence of a successful network. The authors predict that the present competition of a single enterprise will be substituted in the future by a competition of vertical co-operating "Supply Chain Networks" steered through co-operating management systems like ECR and CPFR being customer orientated. In the paper the following questions must be answered: Does marketing orientation change the quality understanding in business and production processes? Does a more precise customer segmentation change the handling of commodities within the network? In terms of networks, which incentives will be used to guarantee the customer orientation of the whole chain? To answer these questions, chain systems must be analysed in terms of which quality attributes are perceived as important by the consumer and how can they be transmitted into the system. Key words: Customer segmentation, chain systems, change of quality perception
1
Introduction
Even though in many publications it has been shown that the saturated agri-food markets have been transformed from seller dominated to buyer dominated markets many agri-food enterprises still act as if they have not realised this change, yet. But today this change implies being customer orientated as a competitive necessity to stay in the market. For this reason, this kind of buyer orientation results in a marketing orientation philosophy of the firm. Market orientation is defined as
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the extent to which an actor in the marketplace uses knowledge of the market, especially of the customers as a basis for decisions on what to produce, how to produce it and how to market it (Grunert et al. 2002). Being marketing orientated has several implications for agri-food firms: • Getting to know the customer by customer segmentation, • Forming chain systems and • Changing quality perception. Chapter 2 discusses the need to enhance customer orientation. Being rather heterogeneous than homogeneous, the customer has to be addressed as specifically as possible. Hitherto an organisation must have proper knowledge about its target market, its customer focus group and the driving forces of their business to achieve a long lasting competitive advantage. Chapter 3 addresses another implication of a stringent marketing orientation. After the recent food scandals consumers, as well as politicians, called for a new defined quality approach. For the whole food chain, every single production step should be monitored and documented to achieve transparency and traceability throughout the whole chain. This definition of a chain network requires one enterprise to be responsible for the whole production process. On account of this, it has to be considered that the old patterns of horizontal and vertical competition and distrust must be changed to a new form of competitive environment. This environment can be described by co-opetition i.e. firms co-operate within defined networks but compete with other networks. In this sense, co-opetition can be explained by intra network co-operation but inter network competition. The fourth chapter delineates the consequence of enhanced transparency within chain systems on food quality. Formerly trust attributes are converted to inspection attributes or even better-to-shop-attributes. But in this context two cases have to be considered. On the one hand with the increase in the use of modern inspection technology formerly non-measurable or too costly to measure ingredients might now be subject of less-cost intensive inspection procedures. This could lead to an enlargement of spot market transactions. But on the other hand customer orientation implies that quality attributes are derived from the quality perceptions of consumers. Information overload, asymmetric information, time constraints and emotional attitudes of quality (e.g. animal welfare) have to be considered as attributes of quality leading to an increase of trust attributes. In the final chapter the authors conclude that changes in the agri-food business and in consumer behaviour will force companies willing to stay in the market to orientate its activities on the final consumer demand and on the membership conditions in a specific food chain. This again implies a change in competition.
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2
Customer Segmentation
Basic economic literature shows that consumer demand determines the action of the firms. When studying business literature, one discovers that the perspective of the aggregate level is changed to a level of smaller segments. In this chapter the authors will work on: • •
The development of German Agri-food markets and Customer segmentation.
At the end of the section an in-between conclusion will sum up the findings of this chapter. 2.1
Development of the Agri-food markets
As the determinants of food demand, two development categories have been mainly considered: • •
the growth of the population as well as the income and food consumption trends.
- The growth of the population and income development From World War II until the 1970s a steady increase of population growth could be observed. From the 70 s up to now the food industry has been confronted with a stagnation of growth. Even though the re-unification cannot be considered as a growth of population, for both the eastern and western German food firms it had a great impact. While the West German products could succeed in gaining considerable market shares in former East Germany, the majority of the East German firms had no success in entering the West German market. In the same period a steady increase in people's income could be observed. Yet, it has to be considered that the rate of unemployed people has risen constantly since the 1970's. The percentage of income spent on food has continuously fallen over the time portrayed, but in absolute value the amount of money spent on food has increased. For the growth and income developments, some general tendencies can be given rather easily while for food consumption trends, it is more difficult. - Food consumption trends Up to the beginning of the 1970's food consumption patterns were basically determined by a supply of low differentiated food products and traditional meal compositions, i.e. what was produced was consumed. Since then, the consumption is affected by heterogeneous trends. Major long lasting food trends in Germany are indulgence, well-being, convenience and ethnic food. These trends were established years ago but are still
92 prevalent today. It can be observed that long lasting trends change over time. While in the beginning of the 1980s canned food and defrosted pizza was considered as convenience, nowadays chilled food, packed meat for a single person etc. is considered as such (Kohnen 2003). Product and service differentiation activities by food suppliers took place together with changes in consumer food preferences. Consequently, consumers' demand differentiation allows food suppliers to no longer address consumer requirements with a somewhat average supply of food products and services. Consumers are more and more heterogeneous in their consumption habits. Empirical findings which will be presented below support this view. A qualitative analysis of the effects of the eating culture and habits of German consumers, released by the Rheingold Institute, comes up with some interesting findings that are summarized in three consumption pattern underlying trends: • • •
Multitude of options; Individualisation and De-sensuousness or de-voluptuousness (Rheingold 1998).
Multitude of options: Eating is done anywhere and at anytime. Traditional rigid eating patterns are today unknown. For example, eating out is done frequently either in canteens, fast food locations or in good restaurants. But, even though people are aware that they live in a consumers' world of surplus, they feel unwell about the multitude of options and thus the decisions they face everyday. Additionally, eating is not any longer a voluptuous experience instead, food is seen as a sort of fuel for physical activities the body needs. Individualisation: Consumers are increasingly needing smaller package sizes since they eat alone and more special pieces are selected e.g. instead of a whole chicken, only parts (wings or legs) are bought. Being to some extent overwhelmed by the total amount of food offered people need some method to ease the decision making process. Brands might give this support. Since food is seen as "only" fuel the price is the most important variable. Therefore, a tendency towards low priced products is observed. But on the other hand in order to save time an increase of the demand for functional food and OTCs (over the counter) can be observed. De-sensuousness: Of major relevance for this paper is the finding that by the trend of de-sensuousness people automatically build up psychological barriers or distances towards food product characteristics. Not knowing where food originated from nor how it is processed, consumers fear losing control over their own food consumption. Especially the discussions about GMOs and hormones used in beef production as well as and the recent food scandals enhance this type of increasing insecurity. (Rheingold 1998) Together with these qualitative findings two major trends have been identified as a result of the BSE and FMD crisis. Firstly, German consumers demand a very high and a newly defined quality at every day low prices. Today, quality is defined on the one hand by objective characteristics like taste, smell, fat content, and other measurable characteristics. But, on the other hand product features, like
93 transparency, documentation, and control of the production process within a supply chain, which are merely a matter of trust (Hanf/Kuhl, 2002) are required more and more. As a result of the food scandals, German consumers are once again aware that food products are not only shopping or inspection goods but highly credence goods. It can be stated that consumers do not differentiate between diseases proved by scientists of being dangerous for humans and ones of being harmless, i.e. FMD was regarded as dangerous as BSE by consumers. Consequendy, if a food processor or a retailer wants to sustain his competitive position in the German market, he has to be the trustee for the new defined quality at the lowest price possible. Secondly, an exponential rise in the demand of organic food could be observed (Bruhn 2001). There are some indicators showing that the consumption patterns of the pre BSE period are returning. That is why, the observed dramatic growth of organic food products will slow down but will keep increasing (Hanf 2002). It can be concluded that up to the 1970' s the German food market was steadily increasing in volume and turnover and the consumer consumption patterns seemed to be rather homogeneous. But since the 1970s the food market showed signs of saturation and indicated that the consumers demanded more heterogeneous food varieties. The formerly more or less "average" consumer has changed towards a more sophisticated consumer. This consumer acts individually, loves and hates all the options he has, takes food as a source of energy and fears the latent food quality uncertainties. In addition, German consumers are "smart shoppers" always in search of the cheapest price. 2.2
Customer segmentation
Being customer driven should be a competitive necessity for firms to increase customer loyalty and to satisfy the heterogeneous demand shown above. On that account, some major trends have been identified by the authors showing the dynamics of the food business. If firms are willing to use these trends, they are able form consumer segments. Hitherto, the buying process must be analysed and implications for the management must be gathered leading to the question of the smallest possible unit of customers being targeted. The following topics are relevant in this context: • • •
Differentiated buying process; Customer relationship management and Mass customisation.
- Differentiated buying process In general, management systems assume that there is an identity between the buyer of a product who is identical with the consumer and even identical with the initiator of the purchase. This statement is certainly true for a single person shopping just for his own purpose. For families, Engel et al. (1995) divide the consumer into five
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groups according to the following characteristics: 1. Initiator/Gatekeeper, 2. Influencer, 3. Decider, 4. Buyer, and 5. User. The initiator/gatekeeper is described as the person initiating the families to think about buying products and gathering information to guide the decision. The influencer is described as the individual whose opinions have decisive influence on the criteria the family apply in the buying process. This also includes the decision which products or brands most likely fit to those evaluation criteria. The decider is the person with the financial authority and/or power to choose on which products or brands the family's money will be spent on. The buyer is the person who acts as the purchasing agent, visiting the store, calling the suppliers, writing checks, bringing products into the home. The user is the individual who uses the product (Engel et al., 1995). Take an academic family as an example. The children initiate the idea to have a barbecue. The father is considered to be an expert of food products. That is why, he influences the decision about the choice of meat. The mother has the purchasing power and also actually buys the meat. The barbecue meat is eaten and enjoyed by the whole family. For a retailer it may be essential to address the right person to make sure that the actual buying process is done in his shop. As a result of the decline of gender differences traditional joint decision making made together by husband and wife is now to some extend replaced by a strictly separated decision process. Engel et al. showed that decisions on grocery items are still made dominantly by the wife but they also indicate a slide movement towards a joint decision making process (Engel et al. 1995). - Customer relationship management A traditional way of segmentation is to divide the consumers according to the family cycle: single, young couple, full nest I, II, III, empty nest and single partner (Kroeber-Riel 1992). Nowadays, by using the tools of data warehousing and mining new consumer segments can be identified more easily. Customer Relationship Management (CRM) uses this detailed knowledge about the customer to customise the assortment to the smallest segment of customers, which can be reached within economical restraints. As a first result we can state that the complex "buyer - actual demander" has been developed over time to an increased heterogeneity. As a consequence the average assortment has grown over the years. As we have demonstrated earlier, on the one hand the demand for a greater product variety within one shop grew because the demand got more heterogeneous and on the other hand it grew because people recognised that time is a scarce resource. The appearance of the so called "one stop shopping" outlets could be seen as a result of this new perspective (Nieschlag et al. 1997). Running a "one stop shopping" outlet in Germany means to carry over 15.000 food products in order to satisfy the heterogeneous demand. Using data mining techniques this heterogeneous demand can be clustered into small groups.
95 - Mass customization The movement towards serving smaller market segments in order to fulfil diversified consumer needs raises the question of how far this segmentation can go. The benefits of mass production can be offset by increasing diseconomies of scale of enhanced product differentiation at some point. The question is whether mass production procedures can be transferred successfully to segmented markets and if mass customisation of food products or categories can be a driver in this respect. First, we take a general look at the retail sector as a whole. For a couple of years there have been different approaches to this topic, especially in the textile industry where there have been some successful attempts to implement mass customisation. In Germany several textile retailers are working with a mass customisation concept. Mainly dresses and suits, but also shirts and shoes are produced subject to that concept. The fact that the total number of these concepts is increasing indicates that it may be a profitable way to differentiate against competitors. Another example of successful mass customisation is the cosmetic line of Procter & Gamble (P&G). In the U.S. the P&G brand "Reflect.com" offers every female customer individually mixed cosmetics within a price range of high end drugstores (Lebensmittelzeitung 1999 / 2000). For the food business the authors have not found any example of mass customisation in Germany. However, an example was found in U.S. market. Procter & Gamble tried to mass customise the mixture of coffee, but this attempt failed. A recent attempt has been found under www.Mycereal.com General Mills has offered to customise breakfast cereals according to individual preferences. 2.3 Conclusion The authors showed that the continuous population and income growth enabled firms to be production orientated for a long time. But since the 1970's this environment changed and firms operating in the German agri-food business have to re-model their business concept. First, they have to be more consumer-orientated in order to satisfy the increasingly heterogeneous demand. As a result, firms have to work towards an optimisation of their Customer Relationship Management. Even though there are somefirstattempts of a mass customisation concepts of food products the success is questionable. But a detailed Category Management trying to arrange the assortment on behalf of the perception of the customer might be considered to some extent as a first step towards mass customisation. But even though firms may have detected a certain trend or attitude of the customer it is not a static but very dynamic relationship with its customers which has to be worked on steadily. Secondly, the firms have to form new business models being able to put in work the transparency and traceability demanded by the consumers and politicians. This can be achieved by the forming of chain systems.
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3
Chain Systems
To achieve transparency and traceabiliry agri-food firms have to build tight and long lasting downstream and upstream relationships with suppliers as well as purchasers. By organising product and service transactions within co-operative chain relationships the formerly dominating spot market transactions will be substituted by transactions within networks. This development affects the competitive behaviour as well as the way transactions are organised. For this reason, in this chapter the authors will concentrate on the topics of • •
Co-opetition and Supply Chain Networks.
3.1 Co-opetition To explain co-opetition some background information must first be given. Therefore, the authors will continue as follows: • Brief description of the historical development • Implication of co-opetition. - Historical development Traditionally, most of the agricultural goods were considered to be commodities and suppliers could easily be substituted. It was common for transactions to be made on the spot market. Only for those few agricultural products for which it was difficult to replace the suppliers, did firms integrate vertically. Another reason for vertical integration was the attempt to gain a higher stake of the marketing bill by the farmers through the building of co-operatives. Since the markets developed from growing to saturated markets, competition became intensified. Throughout the whole food chain, a concentration process was taking place, especially in the retail business where few powerful companies survived. Today the CR10 is higher than 80%. As a result of this concentration firms saw themselves confronted with fierce horizontal as well as vertical competition generating a business climate of conflicts, distrust, and opportunism. In the 1990' s an increase in contract production was observable. A representative survey of the contracting situation in the German farm sector displayed large differences in the importance of contract farming in different product markets. For barley (for brewing), seed and processed vegetables the highest amount of contract-production was found. While for beef and egg production and fresh vegetables contracts were rarely used (Drescher 1997). Catalysed by the BSE and MKS crisis in the beginning of the new millennium a rethinking has taken place. Increasing collaboration between the participants of a food supply chain on subjects like product development, quality guarantee systems
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and improved logistics can be observed. As a result spot markets are being substituted by contract-production and vertical co-ordination (Hendrikse 2003). - Implication of co-opetition Traditionally, firms have competed with their horizontal rivals for the best distribution channel and the highest market share. With their upstream and downstream counterparts firms have fought on conditions and prices. The scope of these actions has been to gain the highest rewards just for the own company i.e. profit maximisation on the cost of the other business participants has been the target. Business relationships basically were short term orientated. Thus, the single market transaction was considered to be the objective to follow. But since spot markets have been replaced by co-ordination mechanisms, competition has also changed. Co-operation mechanism can only be installed if firms start to work jointly and not against each other. Within a co-operation, at least two firms try to reach a goal by shared actions. Examples of forms of co-operation are strategic alliances, co-operatives, subcontracting and franchising. But, if at least two firms are work together in order to achieve a shared goal, the traditional understanding of competitive behaviour is misleading. In order to create transparency and traceability firms have to pass sensitive business information throughout the whole chain. Therefore, chains have to be built which work co-operatively internally but compete externally with other cooperating chains.
Figure 1. Intra chain co-operation, but inter chain competition
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Figure 1 demonstrates a model of this form of intra chain co-operation, but inter chain competition. The overall objective for each single chain and the participating firms is to work jointly in order to produce goods and/or services demanded by the consumers. All chain systems focus on serving the consumer. Consequently, they compete with each other. On account of this, these chain systems face an intra chain co-operation but an inter chain competition i.e. these firms compete and co-operate at the same time. This phenomena is called coopetition, using the terminology of Nalebuff/Brandenburger (1996). The main characteristic for co-opetition is that firms have to think about complementary assets. These assets are used in a co-operation in order to compete against the rivals. Whether a horizontal or vertical co-operation takes place is not of importance (Henke/Ltick 2003). In the context of the agri- food business co-operatives are a traditional way to co-operate horizontally. But, since the BSE and FMD crises mentioned an increasing tendency to co-operate vertically, co-operatives are substantial in Germany. Even though a multitude of different forms of co-operation exists in the following paragraph the authors will analyse in detail the consequences of a marketing orientation in supply chain networks. 3.2
Supply Chain Networks
Marketing orientation can be characterised as sets of activities dealing with the generation and dissemination of, and response to consumer wishes and demands (Grunert et al. 2002). As pointed out previously, consumers as well as the politicians demand higher food safety and more reliance of quality attributes for every food product. To enforce these requirements responsibility for the entire food production process has to be guaranteed. This could best be done by a participant of a supply chain who acts as the trustee for all attributes - especially the credence ones - of the food product. This role could be played by a so-called chain captain of a Supply Chain Network. In the following part, the authors discuss these points: • • •
Definition of networks and supply chain networks The role of a focal company A "unique relation proposition"
- Definition of Networks and Supply Chain Networks Traditionally economics discusses two forms of business transactions. One was through spot market transactions and the other was by vertical integration. But, institutional economics introduced different approaches in the form of hybrid organisational concepts. Hybrid forms are the systematic optimisation of activities through inter-firm co-ordination and co-operation. In general, market transactions are perceived to be unable to pool capabilities and resources of different economic actors while with vertical integration, flexibility and market incentives are lost
99 (Iliopoulos 2003). In the following chapters the authors will concentrate on one specific form of hybrid - the network approach. Networking is a generic term, widely spread in sociology and management sciences. This term covers all arrangements defining recurrent contractual ties among autonomous entities (Menard 2002).
Netzworkbreadth
Network length Number of levels or ochelons Figure 2. Network (Omta et al. 2001)
Networks are not particularly designed to explain vertically organised ties. They rather more generally address all questions on inter-organisational relationships of more than two firms (Lazzarini et al. 2001). Collaboration in networks is enhanced by complementary abilities of the firms. This viewpoint is attached to the resource based view of a firm, i.e. the success of an enterprise is determined by its ability to focus on its own strength and competencies. These strategic resources are heterogeneously distributed across firms and differ among each firm leading to the question about the core competencies of a firm which are a central concept of the resource based view of the firm (Barney 1991). Core competencies are defined "as the collective learning in the organisation, especially how to co-ordinate production skills and integrate multiple streams of technologies" (Prahalad/Hamel 1990). By focusing on core competencies a single company on the one hand is able to capture the returns of applying economies of learning, scale and scope. On the other hand this firm faces the high risk of specialised production orientation. By collaboration specialised firms are able to share their strengths to create a more competitive entity and simultaneously reducing firm individual risks. In network theory collaboration is not only based on financial benefits. Beside pecuniary incentives power and trust are key concepts to motivate economic actors to work jointly together (Uzzi 1997). The role the single firm plays within the network is determined by its power, its competencies, its interests, existing rules,
100 and the aim of the network (Omta et al. 2001). Through mutual dependency of assets developed within networks companies can secure the investments they have made to sustain the network (Menard 2002). The degree of dependency of a single firm also determines the role it plays within the network. But, even if a supplier is to a high degree dependent on the focal company this supplier still has some power. In reerence to the resource dependency theory, the focal company cannot totally dispose of this firm (Pfeffer et al. 1978). This implies that both parties have an interest in a true partnership. A true partnership implies that within a network common values exist based on loyalty and trust worthiness. Albach used the term of a "strategic family" (Albach 1992). An example of a strategic family in the food business is the network of McDonalds who calls itself the McDonalds family. Having outlined the essentials of network theory it has been shown that networks could be used for the organisation of horizontal and vertical cooperations. Because this paper is written in the context of the food chain, an explicit vertical form of network is introduced. As a supply chain network the authors understand the joint and co-operative behaviour and actions of companies that are related by vertical product and information flows in the supply chain in order to provide a product or service the end consumer. The objective of most of the supply chain networks is to produce higher quality and/or higher efficiency by cooperation rather than by full integration of the supply chain or by market transactions (Hanf/Kuhl 2002). - The Role of a Focal Company The focal company or chain captain is liable with its reputation for the correctness of each product being produced by its supply chain network (SCN). The increasing importance of reputation or brand image can be observed by the retailer's efforts to create a brand for their own company and the building of "blockbuster brands" (brands with more than 1 billion € turnover) by manufactures (Hanf/Hanf 2003). The following graph presents a generic SCN consisting of several independent firms aiming to serve the heterogeneous customer demand. The figure demonstrates the growing complexity and task of organisation for the focal company the more supply chains have to coordinated (for the sake of simplicity the authors will explain this figure solely for only one retailer). The range of products a retailer is responsible for (in the sense of traceability, quality assurance, trust) consists of thousands of products. But just for the retailer's own labelled products he himself is considered to be the focal company. Since the chain captain is liable without limitation for the correctness of the production i.e. for all credence characteristics, he must avoid any type of defect within the entire network. To avoid opportunistic behaviour the chain leader has to create a sustainable win - win situation for every actor involved in this chain network. The focal company has to set incentives to create a situation, in which every actor has a self interest to secure the sustainable stability of the whole network
101
(Picot et al. 2001). On the one hand these incentives must be of monetary nature to create a short term win - win situation (i.e. higher profits). On the other hand, the incentives have to be of non-pecuniary nature to create a long lasting "unique relationship proposition", which cannot be imitated easily by competitors. Heterogeneous consumer demand
t Retailer (Focal Company)
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Pr2
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i
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'
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i
i'
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T Wholesaler
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i
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Farmer
Farmer
1
{
^
1
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1
1
Farmer
i
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i
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Figure 3. Supply Chain Network of a Retailer
-A" Unique Relation Proposition " A "unique relationship proposition" is defined as an exclusive benefit perceived within a loyal and long lasting relationship between at least two economic actors striving for a common goal by co-operation. These exclusive benefits could be higher profits or joint growth in the future. But for some participants of the network this might be just to stay in business. The co-operation in supply chain networks relies on confidence and understanding. These characteristics have to grow over a long time and create the space to achieve a superior joint solution of a problem (Hanf/Kiihl 2002). Hitherto, benefits of co-operation are such that the participating firms are able to concentrate on their true core competencies to generate economics of scale and scope and to reduce risk (Hanf/Kuhl 2003). Especially in the food business, where numerous small and medium sized firms are active, co-operative networks give those firms the chance to concentrate on their
102 core competencies. By co-operating, SME's (small and medium enterprises) can better exploit their core competencies and at the same time reduce the risk inherent by focussing on single activities. 3.3 Conclusion Saturated markets in the agri-food business as well as alterations of consumer demand catalyse the building of chain systems that are able to produce along a big scale but still fulfil the demand for quality. For the numerous SME in the German agri-food businesses two alternatives exist. One opportunity is to lose their independence by merging or by a friendly or unfriendly takeover. Another alternative is to stay independent by joining or by building a network. For networks non-monetary incentives like trust and power are mandatory beside economic terms. Introducing the "unique relationship proposition" the authors show how these thoughts should be used to secure the loyalty and trust worthiness within the chain network. In an environment of co-opetition a superior intra chain cooperation generates a competitive advantage to outperform the competing supply chain networks. The authors conclude that in the German agri-food business it is necessary to be marketing orientated. This strategy implies that it will be a necessity for firms to become a player in a supply chain network in order to remain in the market. To outperform the inter-chain competitors the own supply chain network has to build up a strong "unique relationship proposition". 4
Change of Quality Perception
In the preceding chapter the authors explained why it should be essential for food companies with a strong marketing orientation to become a participant of a supply chain network. Membership in a supply chain network might be beneficial for a company because it may profit from the activities of the chain captain as far as the trust generating activities are concerned. The key driver for the establishment of a food chain is the reliable transfer of trust attributes of product quality to the consumer. Thus, the question of this chapter will be to analyse which role trust attributes will play in future. We will answer this question by pointing out the following aspects: • • •
Detailed description of trust attributes, The relevance of modern technology and Dynamic quality perception by the consumers.
103 4.1
Trust attributes
The distinction between different product attributes, first introduced by Nelson (1970) and the introduction of trust attributes in the economic literature by Darby and Kami (1973) changed the perception of food products. It became apparent that with information on attributes, food products evolved from rather uncomplicated raw commodities to somewhat more sophisticated goods. Until the beginning of the 1990s these findings have been used extensively in the literature on agricultural economics. Since the mid 1990s works on trust attributes got more popular and were frequently used in publications (Anderson 1994). Trust attributes are characterised as such product and service characteristics that cannot be detected under ordinary circumstances by the buyer, neither before nor after the buying process has finished. For experience goods the verification of the correctness of die attributes can be exercised right after the purchase. For search goods the buyer is able to find evidence of the attributes even prior to the purchase (Hanf 2000, Picot et al. 2001). The before mentioned food quality crises affected consumers in the sense that they realised that food products consist of shopping, experience and trustworthiness. Knowing their inability to prove the correctness of trust attributes themselves, people reacted in the case of food crises with a sharp reduction of food demand (Bocker/Hanf 2000). For food products trust attributes can be divided in: •
metaphysical like "organic", "animal welfare" and "produced in a special region", chain transparency and traceability or • risk related trust attributes like "salmonella free" and "free of cholesterol" (Hanf 2000). While metaphysical trust attributes are generally affiliated with the production process risk related attributes are generally part of the product itself. Bounded rationality, asymmetric information and time restraints are factors that create a situation in which consumers are not able or not willing to prove the quality of food products. Most of the trust attributes are considered to be components of quality by the consumers. Considering that quality is a multi attributed construct this perspective will have some interesting implications on the marketing orientation and the resulting chain orientation of a modern agri-food enterprise. In analogy to the quality definition of the Total Quality Management concepts, the following three dimensions are of relevance: • Customer orientation i.e. the quality attributes must be recognised by the customer as such attributes; • Process orientation i.e. the whole production process must be included, e.g. from farm to fork and • the fitness of use of the product (Garvin 1987).
104 Taking these dimensions of quality they imply a dynamic change in the perception of the quality by the consumer. A few years ago, the majority of consumers was not very much interested in getting guarantees such as that it would be possible to trace every piece of meat back to the feeding industry. But nowadays, it is a competitive necessity for every meat producer to deliver a record of traceability and transparency. Within that context, we can expect that the requirements for enhancing the preconditions of an increase of transparency of all quality attributes will be fostered. This claim will especially hold for trust attributes that will be subject to the aforementioned dynamic developments. For this reason, it would be interesting to analyse the effects of modern technology on the transparency of trust attributes and on the other hand the effects of changing consumer perception of quality that dynamic process. 4.2
The relevance of modern technology
Trust attributes can be either process or product immanent because trust attributes are of a metaphysic nature as well as of a risk related nature. Constitutional for an credence attribute is that the buyer is not able to find proof of quality characteristics before or after purchasing the good. This lack of balance is dominant in the current situation. Under dynamic considerations the invention and the use of new inspection technologies will enhance transparency of additional product quality attributes at reasonable prices. Innovative technologies transform former credence attributes into experience goods. Take this first piece of evidence: for many years buyers of a food product had to trust the supplier who claimed that the given food product was produced in a specific regioa Birth or slaughter certificates (for meat) or written documents (plant products) testified the promised attributes of regional origin. This form of documentation delivered some form of evidence and proof. But, in the end whether the animal or the plant product has its origin in the assigned region was a matter of trust. Today, modern methods of molecular analysis in small-scale technical units provide analytical solutions to detect and measure quality attributes on a low price basis and in a short period of time. With these instruments it is possible to trace back the finished product to the region it is originated from. Applying this technology it would not have happened that one of German largest retailer, Aldi, sold a sparkling wine trusting the producer that the wine was as promised and documented a "real" Prosecco. But, upon being to supply the market it became evident that this sparkling wine product had its origin not in the assigned region of Veneto, but in Sicily (Hubert 2003). This example shows that it is likely in the near future that the economic relevance of trust attributes will undergo a kind of transformation. We can probably expect that that all existing and demanded trust or credence attributes will be transformed into experience or even to search attributes. Such a transformation has a high impact on the thoughts presented. In the extreme case if there is no trustworthiness any longer needed all products could be
105 purchased on the spot market. The focal companies would still be able to provide all trust required of them. As a result networks would lose their relevance and transactions would be once again done either on the spot market or by a vertical integration. 4.3
Quality perception by the consumers
But, the thoughts presented in the preceding chapter are only one side of the coin. After demonstrating the developments of the market and consumer trends new developments, knowledge and challenges arise permanently. These trends will be transformed into a new quality perception of the consumers. This implies that new trust attributes will evolve. Again these new trust attributes have to be guaranteed for by the focal company. On account of this, the need to build a supply chain network is as important as before. 5
Conclusion
In this paper it has been demonstrated that the effects of the changing market conditions and the increasing sophistication of consumer demand underline the necessity of a clear marketing orientation and vis-a-vis a chain orientation as a competitive requirement. Trust attributes like transparency and traceability are components of the perceived quality of consumer firms of the agri-food sector which have to form supply chain networks assuring the trustworthiness of credence attributes. This trust can only be assured by closer co-operation. This collaboration must be ascertained by creating a "unique relationship proposition". A second result is the evolution of co-opetition. The formerly known horizontal and vertical competition of single companies is changed into a competition of chain systems versus chain systems i.e. there is an intra chain co-operation but an inter chain competition. A third finding was that even if modern technology would be able to transform all recently known trust attributes into experience or shopping attributes, the business dynamics will continuously create new trust attributes. For this reason, the authors predict that chain networks will be necessary in the future. Future questions within this scenario are whether markets as we know them today will vanish. And how the exchange of goods and services within these chains will take place, if price as the only element determining markets exchange no longer exists.
106 Literature
1. AlbachJL: "Strategische Allianzen, strategische Grappen und strategische Familien" ZfB, H.6, pp. 663-670, 1992 2. Andersen,E.S.: „The evolutionof credence goods: A tranactionapproach to product specification and quality control", MAPP Working paper, No. 21. Aarhus, 1994 3. Barney,J.: "Firm Resources and Sustained Competitive Advantages", Journal of Management, Vol. 17, No. 1, pp. 99-120, 1991 4. B6cker,A/Hanf,C.-H.: „Confidence lost and - partially - regained: consumer response to food scares", Journal of Economic Behavior & Organization, Vol. 43, pp. 471-485, 2000 5. Bruhn,M.: "Verbrauchereinstellung zu Bioprodukten"Working Paper No 20, Lehrstuhl fur Agrarmarketing, Institut fur Agrarokonomie der Universitat Kiel, October 2001 6. Darbi,M./Karni,E.: „Free competition and the optimal amount of fraud", Journal of Law and Economics, Vol. 16, pp. 67-88, 1973 7. Drescher,K.: „Vertraglich vertikale {Coordination in der deutschen Landwirtschaft", Diss., Verlag Shaker,Aachen, 1993 8. Garvin, D.A.: "Competing on the eight dimensions of quality", Harvard Business Review, Nov.-Dec, pp. 101-109, 1987 9. Grunert,K.G./Hansen,K./Jeppesen,L.F., Risom,K., Sonne,A.-M., Trondersen,T.: "Market orientation at Industry and Value Chain Levels, Concepts, Determinants and Consequences" in J.H Triekens/ S.W.F. Omta (eds.): Paradoxes in the food Chain and Networks, pp. 35, Wagening Academic Publishers, 2002 10. Engel,J.E./Blackwell,R.D./Miniard,P.W.: "Consumer Behavior"8th edition 1995, Dryden Press, pp. 742-61 11. Hanf,C-H.: „Wettbewerbsfahigkeit und Unternehmertum in der Land- und Ernahrungswirtschaft", Schriften der Gesellschaft fur Wirtschafts- und Sozialwissenschaften des Landbaues e. V , Bd. 36, pp. 265-271, 2000 12. Hanf,J.H./Hanf,C.-H.: „Auswirkungen des globalen Konzentrationsprozesses im Lebensmitteleinzelhandel auf den Ernahrungssektor", Bd. 98, Schriftenreihe der Agrar- und Ernahrungswissenschafthchen Fakultat der CAU, Kiel, pp. 235243, 2003a 13. HanfJ.H.: „Handelsmarken - Ein strategisches Instrument zur Positionierung und Imagebildung eines Lebensmitteleinzelhandlers", Gewisola Band 39, 2002 (forthcoming)
107 14. Hanf,J.H./Kiihl,R.: "Outsourcing - Stellt das Outsourcing eine Basis fur kooperatives Handeln in der Agrar- und Ernahrungswirtschaft dar?" Genossenschafts-Kurier 1/03 S.23, 2003 15. Hanf,J.H./K.uhl,R.: "Consumer values vs economic efficiency in food chains and networks" in J.H Triekens/ S.W.F. Omta (eds): Paradoxes in the food Chain and Networks, pp. 35, Wagening Academic Publishers, 2002 16. Hendrikse,G.W.J.:" Governance of chains and networks: a research agenda" Journal on Chain and Network Science, Vol.3, No. 1, pp. 1-6, 2003 17. Henke,M/Liick,W.: "Coopetition - Kooperationsstrategie fur den Mittelstand ", Frankfurter Allgemenine Zeitung, p.22, 30.06.2003 18. Hubert,W.: "Umstrittene Werbung" Weinwirtschaft 15/03 p. 14, 2003 19. Iliopoulos,C: "Vertical Integration, Contracts, and the Theory of the Cooperative Organization", paper presented at the conference "Vertical Markets and Cooperative Hirachies", Bad Herrenalb, Germany, 12-16 June 2003 20. K6hnen,F.: "In der Frische liegt die Zukunft", Lebensmittelzeitung, p.51, No.22, 2003 21. Kroeber-Riel,W.: "Konsumentenverhalten"Vahlen Verlag, 5. Aufl. 1992, pp. 453-62 22. Lazzarini,S./Chaddad,F./Cook.M.: "Integrating Supply Chain and Network Analysis: The Study of Netchains", Journal on Chain and Network Science, Vol.1, No.l, pp. 7-22,2001 23. Lebensmittelzeitung: "Der Umsatz geht (vielleicht) am Handel vorbei",06.05.1999 24. Lebensmittelzeitung: "Individuelle Massenpodukte "hoch komplex", 12.10.2000 25. Menard, C.:" The Economics of Hybrids Organisations", Presidential Address, ISNIE, MIT, 29 Sept. 2002 26. Nalebuff, B.J., A.M. Brandenburger: Co-opetition, New York, 1996. 27. Nelson,P.: "Information and Consumer Behavior", Journal of Political economy, 78, pp. 311-329, 1970 28. Nieschlag,R./Dichtl.E./Horschgen,H.: "Marketing"Duncker & Humbolt Verlag, 18 Aufl., 1997, pp. 890-95 29. Omta,A.W.F./Trienekens,J.H./Beers,G.: "Chain and network science: A research framework", Journal on Chain and Network Science, Vol.1, No.l, pp. 1-6, 2001 30. Pfeffer,J./Salancik,G.R.: "The External Control of Organizations" Harper & Row, 1978, New York 31. Picot,A./Reichwald,R./Wigand,R.T.: "Die grenzenlose Unternehmung"Gabler Verlag, 4.Aufl. 2001, pp. 316-19 32. Prahalad,C.K./Hamel,G.: "The Core Competence of the Corporation"Harvard Business Review, May - June, 1990, pp. 79-91 33. Rheingold: " Ernahrungstrens 2000+", Research Study, 1998
108 34. Uzzi,B.:" Sozial Structure and Competition in Interfirm Networks: The Paradox of Embeddedness",Administrative Science Quarterly, Vol.42, pp. 3567
109 MARKETING AND DISTRIBUTION OF QUALITY PRODUCTS: A DUTCH EXAMPLE G.M.L TACKEN AND J.J. DE VLIEGER Agricultural Economics Research Institute (LEI), the
Netherlands
It is becoming more difficult in the Netherlands to sell homogeneous products at a moderate price. To keep a sustainable position in the market, it is necessary to develop new products and new production systems. The basis for this development has to be a combination of changes in markets and in the capabilities of firms and farms. Consumers want to choose from a large variety of good-quality products. Farmers - especially those with a medium or small farm - are looking for methods to improve the added value of their farm. The objectives of both farmers and consumers could be fulfilled by producing high-quality speciality products. However, the marketing and distribution of regional products requires large efforts in the field of horizontal and vertical cooperation and the right choice of marketing channel and marketing concepts. For many Dutch farmers this implies learning new skills. Given the differences in optimal scale between farmers, processors and retailers, many farmers have formed producers' groups. In this paper, we approach the problem by means of theoretical frameworks about chain development, horizontal cooperation and management. This leads us to formulate a number of hypotheses. We discuss a number of cases to see whether these hypotheses are supported by real-life examples, and then draw a number of conclusions.
Keywords: regional products, marketing, chain development, producer groups 1
Introduction
The Dutch agricultural and agribusiness sector needs to change its international competitive strategy, because it is becoming all the more difficult to compete with countries that have lower production costs. So far the Dutch strategy has been to deliver a homogeneous, average product at a moderate price - a strategy oriented towards bulk products and bulk markets. In this strategy the price of a product of a certain quality was the most important aspect of international competition. Especially for Dutch farmers with small farms, it has become more difficult to receive a reasonable income in this competitive strategy. Moreover, Dutch farmers with large farms are afraid that this strategy will not give them opportunities in the long term. This strategy can only be long term effective if Dutch firms and farms are able to adapt their production scale constantly to the worldwide standards and to introduce more mechanization and automation in their farms and processing units. However, the changes in societal demands, governmental policy, farm structure and market demands have resulted in a situation in which this cost-price approach no longer automatically generates a competitive advantage for every firm.
110
From a societal viewpoint scale increase, mechanisation and more automation is no longer acceptable. Government policy is answering to these societal demands and giving more importance to environmental aspects and animal welfare. This makes additional investments for farmers necessary: the animals must have more room to move, lie down and stand up. A lot of pesticides are no longer acceptable in horticulture and in animal farms prevention of the emission of odours and nitrogen to the air also entails additional costs. These extra costs in addition to the general increase in wages have made necessary a large and, in principle, continued increase in farm and firm size. Next to that, the competition for land has increased in our densely populated country, which leads to higher prices per square of meter land. For farmers with a lot of land this has an equity increasing effect. For farmers who want to buy land, it has become very difficult to realise acceptable returns on investment. Therefore, it is impossible for every farmer to follow a cost-price strategy and to increase the scale of his or her production. Small farmers are unable to increase production size and large farmers can only survive in a price competitive market if they keep up in scale. This market and production situation has resulted in more attention for differentiation strategies, in order to add more value to the product. In the European consumer market, the increase in general welfare has resulted in a consumption pattern in which the aspect of self-expression has become more important. The result is a more differentiated demand, in which such aspects as variation and exclusiveness play a greater role. In its diversity the Dutch agribusiness must be able to answer this trend. In this paper we first define the problems Dutch farmers and the agribusiness firms face as a result of these developments as well as on the possible strategic solutions. The problems are related to three aspects, namely marketing (including product development), distribution, and horizontal and vertical coordination. In the following section we further elaborate the problem by describing the current situation and recent developments in the Dutch agribusiness. We then discuss the theoretical aspects of the problem addressed. Thereafter we illustrate practical solutions with help of a number of examples based on high-quality products, and then draw a number of conclusions. 2
Recent Developments in Dutch Agriculture
The Dutch agribusiness complex consists of a number of subcomplexes, of which in the year 2000, dairy farming was the most important in terms of added value (31%). The horticultural complex is the fastest growing subsector. Although our agricultural trade is still growing, growth is not as high as that of other goods. In 2001, agricultural products made up 19% of all Dutch exports. In the EU, the Dutch market share in the European agricultural trade was about 20%. The Dutch have a dominant position with respect to cut-flowers, vegetable seeds and broilers.1'1 The
111 Netherlands even rank above the USA, as the world's largest net exporter of agricultural products. Our most important trading partners are other EU countries, especially our neighbours: Germany, Belgium, France, Great Britain and Italy[2]. In 2002 the Dutch exported almost 75% of our total export of agricultural products to EU countries, and 60% of our imports were imported from EU countries. In recent years the Dutch exporters have lost market share in Germany and gained market share in France and Great Britain. This implicates that the Netherlands lose market share in markets with a significant amount of price competition and gain market share in markets that demand higher quality products. The average growth in Dutch agricultural exports was 5% in 1993-2001[2]. This figure is somewhat lower than the average growth of the export of all EU countries. The Dutch market share shrank from 23% in 1993 to 20% in 2001. For potatoes, vegetables and pork, the loss in market share was considerable.[1] The value added in Dutch agribusiness has increased between 1990 and 2000.[3] However, the increase was less than that in other sectors of the Dutch economy. As a result, the importance of agribusiness shrank in this period from 13% to 10.4%. The share of the total agribusiness complex based on Dutch raw materials also shrank between 1995 and 2000, from 7.5% to 6.2%. The Dutch competitive posiuon[1] can be analysed further. Earlier research of LEI shows that the following four determinants turned out to be relevant: market adaptability, supply chain effectiveness, costs and efficiency, and strategic potential/41 The results of research projects in cut flowers, cheese, broiler meat, fruit and vegetables show that a more differentiated approach to product and assortment is needed not only to stay competitive on the long run but also to meet the wishes of consumers and retailers better. Good, clearly positioned products and measurable product propositions are necessary in order to maintain the connection with the high-quality segments of the market. Therefore speed and effectiveness in product development and responsiveness are needed. This can be reached by segmentation of the market, such as organic and non-organic products or non genetically modified organisms and genetically modified products. These segmentations are based on consumer concerns about environmental problems and animal welfare, but segmentation on origin and authenticity is possible as well. Next to market demands, the power fields in agricultural supply chains have been changed. Retailers are concentrating more and more on the buying of products/11 In almost every EU country, the five largest retail organizations have a market share of 40-70%. This development has resulted in the concentration of agricultural processing firms. Price competition in these markets is fierce, but knowledge of local markets is still very important since the wishes of local buyers are still very diverse. Dutch companies have responded to these developments by the acquisition of foreign enterprises or by finding local partners. In the main export markets of the Netherlands the population is almost stable these days. This and the diminishing share of food in the buying pattern of consumers reveal a mature market. In surviving in these markets an increase in market share can only be found
112
in meeting consumer demands better than competitors and having a broader base than only price. In summary, the Dutch agricultural sector still dominates in the European export market, but in keeping this position it is very important that Dutch farmers keep their license to produce and that supply still meets the changing demands. For Dutch exports the short distance to large consumption centres and the knowledge of the demand in the local markets is still advantageous. 3
Theoretical Aspects
Dutch companies mainly relied on the cost leadership strategy in the past years. But is there an alternative? In this section we discuss the theories that can be used to find a solution to the transition process that Dutch farmers have in mind. For vertical coordination we looked at network theories, supply chain management theories, transaction cost theory and the new property rights theory, for horizontal coordination at theories for cooperations. We end this chapter with market development theories. 3.1 Networks Porter151 stated that 'the essence of strategy relates a company to its environment'. He distinguished five forces that determine the competitive position and strength of a company: its suppliers, substitutes, new entrants, rivals and customers. Further, he defined three possible generic strategies in being competitive: cost leadership, differentiation and focus. For the internal organisation of a company, Porter (1985) developed the value chain concept. He stated that by improving the links between the value adding processes, a company can increase competitive advantage. If a company chooses cost leadership, it is important that in all value adding processes, cost reduction is the main objective. In implementing this approach the Dutch agribusiness faces NGO objections. In finding alternatives the network approach could be more suitable. Porters viewpoint is mainly based on the viewpoint that companies should be primarily competitive in their relationships with their environment. From the network approach, companies should build up cooperative relationships with the key stake holders in their environment. From this viewpoint being competitive in the long run, is not dependent on selling power, calculation and winning but more on building durable partnerships and trust from all stakeholders. An organization's strategy should be based on its strengths, and especially on the capabilities and competencies that distinguish it from other companies. Capabilities and competencies play a major role in this resource-based school of thought.[6] The central tenet is that every company has unique capabilities and competencies.
113 The central premise of the various network theories is that every firm has relationships with surrounding firms (i.e. each is a node in a network) and other stake holders. Several factors influence the nature of the relationship and the extent to which the firms can benefit from this relationship by exchanging information, building trust and learning from each other. These factors are the stability of the relationship, the internal capacity of firms to share information and to learn, the willingness and enthusiasm to enter a new relationship, and the complexity of the product. This implies that besides economic motivations interdependence, informal relationships, mutual gain, power, trust and commitment are also key issues in being competitive on the long run. Stability is the primary factor influencing the nature of the relationship. In building trust and in learning from each other, it is important for firms to have frequent and long-term contacts, because learning and trust develop over time.[71 Moreover, learning effects can be greater when there is a certain level of trust between the participating firms.[8] However, relationships should also vary now and then.'71 Although these two statements may seem contradictory, when relations have been stable for a while, this stability can form the basis for variety/91 The reason for promoting variety is that within new relationships new possibilities arise for the participating firms to gain knowledge from the new partners/81 This is important because innovations usually arise through new combinations of existing knowledge.'71 The benefits cooperating firms obtain from a relationship are influenced not only by the stability and variety in relations, but also by their internal capacity to share information and to learn. For instance, firms that are experienced in working with other firms are probably better at maintaining the relationships and at benefiting from them than those that do not have this experience. Dyer and Singh stated that firms are aware of this because 'firms with collaboration experience have been found to be more desirable as partners'.[10] In addition they claim that these firms are more likely to benefit from these partnerships by generating value through them. The degree to which firms are able to maintain a relationship and to benefit from it is also influenced by their willingness and enthusiasm to enter a new relationship. It is expected thatfirmsthat are more willing and enthusiastic to enter a relationship will make more effort to maintain that relationship, for instance by not readily accepting attractive trading alternatives'111 Enthusiasm also influences the ability of firms to learn and to teach According to Hakansson: "The more the firms show interest and are prepared to both learn and teach, the more they can benefit from the relationship.''81 Once the firms are convinced of the expected positive economic returns from a relationship, the employees have to develop and maintain the necessary relationships. If they possess the right personal assets to work together, gain knowledge, share information and stimulate their colleagues at other firms, the chances for innovations and the possibilities to solve problems grow and necessary information regarding consumer wishes is shared. This in turn
114 leads to increased sales and profits and supports the continued existence of the newly developed relationship. Apart from therelationshipsbetween the firms and their internal competencies, the complexity of the product also influences the nature of the relationship and the extent to which information is shared. Usually less information sharing is required in relationships established with the goal of producing and marketing a standard product than in those established for specialized and complex products/81 In addition, the learning effects are assumed to be smaller forrelationshipsconcerned with simple products than for those focused on complex products.'81 In short, network theories show that the nature of the relationships and the degree to which firms are able to benefit from them, can be described by three factors, namely trust, sharing of information and learning. Only if, during the chain building process, attention is focused on the social as well as the economic aspects of working together, chains will be built on a solid foundation of mutual commitment and trust and will be better able to withstand turmoil and to fulfill the promise of profit in the long term. 3.2
Supply chain and transaction cost
In order to successfully meet customer demand and to increase competitiveness, the individual business is dependent on its management's ability to integrate the firm's intricate network of business relations - which is why supply chain management has become a leading paradigm in business management. Stern has stated that 'the channel should be viewed as an orchestrated network that creates value for end-users by generating form, possession, time and place utilities/121 In a channel, institutions can be eliminated or substituted, while functions cannot be eliminated: they are shifted forwards or backwards when institutions are eliminated. In this context, a supply chain is a process of interdependent activities in which its various components (suppliers, producers, manufacturers, and distributors) interact with the aim of producing and/or purchasing raw materials and transforming them via semi-finished products into end products, and then delivering these end products to consumers in order to satisfy their demands/131 Successful supply chains are often managed consciously. Lambert has defined supply chain management as: "The integration of key business processes from end user through original suppliers that provide products, services and information that add value for customers and other stakeholders.''141 The central aspects in this definition are the integration of key business processes and the value added concept. The latter concept is derived from Porter's value chain. He distinguishes primary activities (the physical creation, sale and transfer of a product) from
115
supporting activities (firm infrastructure, HRM, technology development, and procurement that supports the primary activities). All organizations have to make both long-term strategic and short-term operational decisions: the major decisions concern location, production, inventory and transportation/151 However, in the supply chain the actors may have different and even conflicting objectives. To solve this problem, the chain must be managed as a whole and attention must be paid to the functional trade-offs.[16] This means that the focus must be on increasing the margins rather than on dividing them, and thus creating a win-win relationship based on trust. Coase (1937) already argued that in every supply chain costs can be avoided by internalizing market mechanism costs (information, negotiation and enforcement costs) within a firm by vertical integration. In principle, there is a spectrum of possible marketing arrangements, ranging from open spot markets to full vertical integration. Williamson maintains that the optimal institutional arrangement depends on three basic characteristics of transactions, namely uncertainty, frequency and asset specificity.[17] As each of these factors increases in importance, it becomes more important to coordinate vertical relationships more closely.[18] Hobbs has argued that technological, regulatory and socioeconomic developments are responsible for changes in product characteristics and transaction characteristics, and are therefore the drivers behind the changes in transaction costs and vertical coordination/191 The basic idea behind supply chain management and collaboration between actors is to reduce uncertainty and to better satisfy consumers at a lower cost. Van der Vorst distinguished four types of uncertainty: demand and distribution uncertainty, supply uncertainty, process uncertainty, and planning and control uncertainty.1201 By identifying the uncertainties surrounding the decision variables responsible for the most desirable performance, it is possible to choose effective redesign principles to reduce or eliminate the uncertainties with respect to, for instance, roles and processes, customer order lead-times, the coordination of logistical processes, the creation of information transparency, and the joint definition of objectives and performance indicators for the entire supply chain. To determine whether and, if so, what changes are necessary in vertical organization as market circumstances and competitive policy are changed, transaction cost economics tells us to look at the characteristics of the relation, namely uncertainty with respect to demand and distribution, supply, process, planning and control, frequency and asset specificity. The greater each of these aspects, the more reason for closer coordination. 3.3
New property rights theory
In contrast to transaction cost economics (which suggest vertical integration as a solution to protect relationship-specific investments), new property rights theory explicates the adverse effects of vertical integration on the investment incentives of
116 the transaction partners. The starting point of this theory is the impossibility to draw up enforceable contracts. Real-world contracts are always incomplete and action and payments must often be determined ex post, either unilaterally or through negotiation. Relationship-specific investments create the possibility for hold-up, that is for the ex-post appropriation of revenues by the non-investing contract party. Therefore, incomplete contracts can lead to underinvestment in the economic relationship. Vertical integration may solve this problem. However, such integration brings with it costs as well as benefits, because a shift in ownership affects the incentives to invest in the part of the firms concerned. The costs he in the inefficiency problem of ex-ante investments. A possible hold-up leads to underinvestment in the economic relationship. Grossman and Hart have defined a firm as being a collection of non-human assets under common ownership, where ownership means holding residual rights of control.'241 In a buyer-seller relationship, the optimal asset ownerships are: a) The buyer should be given more assets, as investments by the buyer become more important (for generating a surplus) relative to investments by the seller. b) The buyer should be given those assets that make the total added value most sensitive to the buyer's investment. c) If an asset has no influence on the buyer's investment it should be owned by the supplier; thus, no outsider should ever own an asset. d) Joint ownership - meaning that both parties have the right to veto the use of the asset - is never optimal: as a consequence, highly complementary assets should be under single ownership. This theory shows that with respect to relationship-specific investments, underinvestment may result from the hold-up problem. This problem can be solved by changes in asset ownership, as explained by Grossman and Hart. 3.4 Cooperatives In building horizontal cooperation relationships between primary producers, legal organisation in a cooperative turns out to be most interesting from a tax viewpoint and from a liability in law viewpoint. Next to that, cooperatives can be established for a number of reasons. Schrader has given seven reasons for farmers to start a cooperative™: • To acquire symmetric information. Asymmetric information can lead to a loss of income both for a private person and for society as a whole. A cooperative which collects information for all members can resolve such asymmetry. • To jointly exploit the scale advantages in supplying and processing stages. • To gain and use market power (countervailing power) in negotiations with suppliers and buyers.
117 • • • •
To deliver services and markets not available otherwise. To secure the supply of raw materials and a market for products. To reap the profits of coordinating, for instance, the processing capacity. To realize risk reduction by pooling the risks and the market prices during the year. Neo-classical economics relates the existence of cooperatives to market failures as a result of asymmetric market power or information. Transaction cost economics explains the existence of cooperatives by pointing to the need to reduce transaction costs to the lowest possible level. With the help of cooperatives, farmers can also solve the hold-up problem related to asset specificity. Farmers can influence the activities of the cooperative and thus protect the asset-specific investments in their farm. However, the cooperative has collective ownership of assets. This may lead to long term decision processes and conflicts on decisions and revenues and, as a result, to weak incentives to invest in cooperatives. Such weak incentives can be expressed by the free-rider problem both inside the cooperative (becoming a member with all revenues, without paying an entry fee) and outside it (having the revenues from the work of the cooperative). The horizon problem is a result of investments in assets that are profitable in the long run, so that members will not receive all the possible revenues. The portfolio problem is related to the difference between members as regards the risks they want to take. This can result in the avoidance of risky investments. Then there is the problem related to the cost of having influence in the organization. These costs increase if the cooperative has a more differentiated character. The problems regarding investments in cooperatives can be solved with the help of an extension of the theory on incomplete contracts, as Cook and Iliopoulus showed/225 They came up with the following rules to solve the problems: • Clearly valued and transferable stocks in the capital of the cooperative (horizon and portfolio problem). • Restricted membership (free-rider problem). • Detailed arrangements concerning the quality and quantity of the produce delivered (free-rider problem). • Investments in the capital of the cooperative when becoming a member (freerider and horizon problem). • One product (portfolio and influence problem). Concluding, one can state that in building horizontal cooperation relationships founding cooperatives are most interesting for Dutch primary producers. However, cooperatives can have long decision processes and relative risk adverse investment behaviour. Therefore it is expectable that cooperatives can be less market oriented than a private firm.
118 3.5 Market development theories In the development of markets it is very important for the market offering to be positioned and differentiated from the product of competitors. This can be done by creating a unique selling proposition, but also by double-benefit positioning or triple benefit-positioning.[25] In reference to product differentiation, competitive advantage can be discussed. A market offering can be differentiated along five dimensions: • Product: form, features, performance quality, conformance quality, durability, reliability, repairability, style, design. • Services: order ease, delivery, installation, customer training, customer consulting, maintenance and repair, miscellaneous services. • Personnel: competence, courtesy, credibility, reliability, responsiveness, communication • Channel: coverage, expertise, performance • Image: symbols, media, atmosphere, events On basis of defining the positioning of the product and a segmentation of the potential market, a target group of customers has to be chosen and identified. In defining the target group it is essential that the selling company has insights in their needs. After this process the new products can be launched in the market. 3.6 Hypotheses The change by the Dutch agribusiness sector from a cost leadership strategy to a differentiation strategy is associated with new product development, a number of changes in marketing of products and distribution and horizontal and vertical coordination. This part of the paper provides an overview of the changes that can be expected. Thereafter, a number of hypotheses are formulated on basis of the theories discussed. To formulate hypotheses, first an overview of the implications of the switch to a differentiation strategy is given A differentiation strategy places greater emphasis on the importance and the process of product development based on the wishes and demands of users and consumers. This means extra investments in research (market and production technology) and in promotion. But in changing from cost leadership to differentiation there is also a greater risk of failure. Differentiation also implies the development of other/new distribution channels and greater demands on logistics (separation of the flow of goods). Furthermore, the assortment of firms increases which means higher stock costs and a need for larger stores (supermarkets). These developments result in greater uncertainties and new specific investments for the firms in the production chain. According to the ransaction cost theory, the change from a cost leadership strategy to a differentiation strategy will lead to the growing importance of closer horizontal and vertical coordination (HI). With respect to relationship-specific
119 investments, in case of hold-up problems or underinvestment changes in asset ownership can be expected (H2). As a result of the greater information asymmetry, the need to exploit scale advantages to gain and use market power and to reduce the risks more cooperatives will be founded (H3). In order to make investments possible and to protect them, these new cooperatives need restricted membership, detailed arrangements about quality and a strict relation between stocks and investments by members (H4). This is in accordance with the theory on incomplete contracts. Network theory underlines the importance of building good relationships between a cooperative and its stakeholders and social aspects as trust and commitment in the relationships between partner firms (H5). Based on strategic management theory, an improvement of the links between the value-adding processes can be expected, for instance by redesigning the chain (H6). The market development theory underlines a switch from product or production orientation to market orientation in marketing and product development, in which the wishes and demands of users and consumers are taken into account (H7). 4
Dutch Examples
In this part of the paper we discuss the structure and behavioural aspects of some examples of the changing from a cost leadership strategy to a differentiation strategy, in order to find clues that confirm the hypotheses made on the basis of the theories. We examine the following cases: the introduction and distribution of organic milk and dairy products; pork produced in an environmentally friendly manner; new horticultural cooperatives; and new regional products.
4.1
Organic milk and dairy products
In 2000, the Dutch market for organic milk and dairy products was 70-100 million litres;1261 two years later 100-110 million litres. The market share of organic dairy products in the total Dutch milk and dairy market is now 1.9%. In 2002 about 300 farmers produced organic milk. They are organized in one producer association (Natuurweide/Ekomelk-Noord), which concludes contracts with the two large Dutch dairy multinationals - Campina and Friesland Coberco Dairy Foods - to process the milk and sell the organic milk products. The organic milk is processed in specialized factories. In the contracts the price of organic milk is linked to the price of standard milk. Attempts to release the link between the two types of milk have not been successful, because the processors are reluctant. Despite these attempts, the average income position of organic milk producers has improved in the last two years. In 2000 the difference between the two prices was about 4-7 euro cents per litre, and in 2002
120 about 6 euro cents per litre - resulting in, on average, 40% more income for the farmers. Dutch organic milk and milk products are mainly sold in the Netherlands. Some of the organic cheeses are exported as well, mostly to Germany. The processors sell the milk to supermarkets (market share in 2000: 78%), health food stores (16%) and other outlets. The market share of supermarkets grew in 2002 to 84%, while the market share of health food stores remained the same (16%). The market share of other outlets dramatically diminished. The main products are milk and milk products, such as yoghurt. Cheese and butter are less important products. Campina is the market leader in the Netherlands with a market share of over 60%. The distribution of organic milk products to supermarkets costs an extra 2-3 eurocents per litre. The consumer price of organic milk products has a premium of about 40 euro cents per litre. This is not entirely due to the higher costs for separate collection of the milk and distribution of the end products but is mainly the result of the strategic position of milk in Dutch supermarkets: most supermarkets consider standard milk as a low-margin product with which to attract customers, while organic milk is seen as a speciality (i.e. high-margin) product. This organic milk production case illustrates a number of the hypotheses. First, it underlines the growing importance of vertical and horizontal coordination (HI). Although the milk is processed by cooperatives, the producers of organic milk conclude contracts in order to reduce the uncertainty about the price (H3). Further, they have their own marketing organization to avoid the problems of incomplete contracts (H4). This example also illustrates differences in costs for collection and distribution and the better (i.e. stronger) market position of organic products, because they are not used for advertising stunts. Finally, growth market for organic milk and milk products shows that the producs are an answer to growing consumers'concern about the environmental and animal welfare impact of agricultural production and the healthiness of the products (H7). 4.2 Pork produced in an environmentallyfriendlymanner In 1995[27] a Dutch pig farmer wanted to increase the added value of his pigs and opted to produce them in an environmentally friendly manner. To realize his desire, he had to develop and position a totally new product in the Dutch market. With the help of the Milieukeur (environmental hallmark) foundation he developed a husbandry system, which can only be applied by certified pig farmers and which would be acceptable for Dutch customers. The right to award and withdraw the certificates and the task of controlling compliance with the rules was given to a new, separate independent firm. After defining the husbandry system a supply chain had to be developed to produce and sell the pigs. To generate a reasonable stream of slaughter pigs, eleven pig farmers invested in an environmental friendly farm and organized themselves in a cooperative. Their Milieukeur pigs are slaughtered in a certified slaughterhouse
121 and de-boned and cut up by a certified meat wholesaler. The pork meat end products are branded with the Milieukeur label. The pigs are sold collectively by the Milieukeur foundation. The foundation has contacts with other partners in the food chain. This cooperation is not formalized but based on mutual trust and dependency. An important condition therefore is the common strategy and competencies. The foundation has relationships with all other partners and it coordinates the product and the financial and information streams. Only a restricted number of butchers and supermarkets are allowed to sell the Milieukeur pork meat to consumers. The most important reasons to found a cooperative of pig farmers for Milieukeur meat were to develop a scale that complies with that of chain partners and to guarantee the stability and the continuation of supply. The most important function of the cooperative is to coordinate the quantity of pigs and their time of delivery. The members pay a contribution and an entrance fee. Initialy the members had to get used to this cooperation because they have lost the freedom to decide about the sale of their pigs. But later on, the participants decided to expand the cooperative activities with buying feed on a collective basis. In this case, a cooperative of farmers is founded. This cooperative is restricted to one specific product in conformity with the theory of incomplete contracts (H4) and the expectations mentioned in H3. There is also a form of cooperation with chain partners that makes use of trust and commitment, as is underlined by network theory (H5). The close cooperation with other chain partners is in line with transaction cost theory (HI). In this case we also found changes in asset ownership and a redesign of the product chain, because the position of the slaughterhouse and the de-boning unit is different: they are paid a fixed price for their services (H2). Although a pig farmer took the initiative, he did so in response to growing consumers' concern about the environmental impact of pig production (H7). 4.3 New horticultural cooperatives In response to changing market conditions and the diminishing turn over at traditional auction houses, growers of fruit and vegetables in the Netherlands have established new cooperatives of primary producers.[23] These cooperatives (over 70 since the early 1990s) unite the producers of a certain crop in order to collectively develop products, implement quality assurance programmes, organize sorting and packing, bargain with customers, and carry out product-specific marketing activities. In the Netherlands, the auction system is not merely a mechanism for price determination: the auction houses were established as grower-owned cooperatives in order to increase the income of their members. However, many large growers left the auction cooperative because they felt that the cost allocation system (a percentage of sales) meant that they were subsidizing the small growers. A more important reason for leaving was that the innovative growers felt that market
122
opportunities for speciality products were not being exploited by the auctions. Speciality products require a special marketing effort, for which the auctions did not have the expertise; in addition, the auction clock provides a disincentive for product differentiation, because products are sold in quality classes comprised of products from different growers. Finally, the members of the auctions did not have the opportunity to sell a part of their products to alternative channels, even though they knew that the price of direct sales to wholesalers would result in a higher income. Growers who wanted to leave the auction cooperative and contract with wholesalers directly were faced with a problem: the wholesalers were not interested in dealing with individual growers and the growers knew that their bargaining position was weak when negotiating individually. They therefore established new producers' organizations, as either a bargaining association or a marketing cooperative. Cooperatives were only established in situations that asked for services (sorting, packing, brand name) that went beyond collective bargaining and for which investments by members were required. The new producers' organizations either were established as truly independent organizations or they maintained a relationship with the auction cooperative. In the latter case, their bargaining power vis-a-vis the auction is decisive for their possibility to make unilateral decisions. This example illustrates how changes in market conditions and particularly the growing demand for differentiated products resulted in new institutions and new forms of horizontal and vertical cooperation (HI + H3). For new producers' organizations, it also shows the relationship between investments and restricted membership (H4) and the need to redesign the product chain (H6). It also illustrates the need for growers to organize the chain and to get involved in marketing (H7). 4.4
New regional products
In the Netherlands a lot of new regional products have been launched on the market to add value and to get away from the bulk market; most of these launches were performed by a farmer or a group of farmers. Such initiatives are not always successful, however. A large number of them disappear after some time because they do not reach an interesting scale. There are a number of reasons for this,1281 but they all underline the difficulties of changing the competitive strategy from a cost leadership strategy to a differentiation strategy, and the need for changes in the field of economic organization. An important reason for failure is related to difficulties in the establishment of a new production and marketing chain. This concerns the selection partners and the horizontal and vertical coordination, including a lack of coordination and of the relevant knowledge about, for instance, market orientation, chain management, the production process and cooperation. Another important reason for failure is that the participants have different strategies and goals. The lack of a common goal and strategy sooner or later leads to a split. The last reason for failure often lies in the
123 field of marketing: the pressure to start production is so high that essential market research is skipped. In some cases, the name of the product is not always suitable, for example the image of the region does not fit with the product sold. In other cases, the marketing channels used reach only a very small part of the population or not in line with the most interesting market segment for that product. The critical success factors are the cooperation between the partners, their enthusiasm and their ability to work together (HI + H5). Also the knowledge about the use of the available resources is important. This applies both to the knowledge of the production process (including quality assurance) and to the organizational aspects of the production chain (H6). A last aspect is development of the market for the class of products to which the new regional product belongs (H7). 5
Conclusions
This paper and especially the cases discussed have illustrated that a change from a cost leadership strategy to a differentiation strategy is not a simple matter: it requires learning and applying new knowledge about, for instance, marketing, cooperation and chain management. It also demands coordinated working in two areas: the product and the production chain development. The cases also showed that in such a process of transformation, the expectations about likely developments based on modern theories (e.g. supply chain and transaction cost, new property rights, cooperatives, networks, strategic management and channel marketing theories) can be helpful. This applies to the seven hypotheses we formulated. However, not all of these hypotheses are fulfilled in every case. In practice application of theories has to be in accordance with the specific situation. This brings us to the final conclusion. The theories discussed help us to advise farmers, processors and wholesalers about how to make the switch from a cost leadership strategy to a differentiation strategy. But first a careful analysis of the specific situation must be performed in order to establish what changes must be made in what direction and which theories could be applicable. When providing such advice, the wishes and ambitions of farmers with respect to the elements they want or have to control are especially important. If they want to control more than just the bargaining process, what they need are investments and a cooperative venture rather than an association is then the best legal organisation structure. References 1. Wijnands, J.H.M. and H. Silvis (2000) Onderweg: concurrentiepositie Nederlandse agrosector. LEI, DenHaag, rapport 3.00.03
124 2. Silvis, H and C. van Bruchem (several years), Landbouw-Economisch Bericht. LEI, Den Haag. 3. Koole, B and M.G.A. van Leeuwen (several years) Het Nederlands agrocomplex. LEI, Den Haag. 4. Hack, M.D., J.C.M. van Meijl, A.F. van Gaasbeek and J.J. de Vlieger (1999). Competitiveness monitor for the agribusiness. LEI, Den Haag, Onderzoekverslag 166. 5. Porter, M.E. (1980) Competitive strategy: techniques for analyzing industries and competitors. The Free Press, New York. 6. Prahalad C.K., Hamel, G. (1994) Competing for the future. Harvard Business School Press, Boston. 7. Borgstein, M.H. et al. (1997) Keten en plattelandsontwikkeling. Markt-, ketenen netwerkkennis toegepast op het landelijk gebied: een programmeringstudie. Nationale Raad voor Landbouwkundig onderzoek/Netwerk voor Onderzoek en Ruimtelijke Ontwikkeling. Den Haag. 8. Hakansson, H.V. Havila, and A.C. Pedersen (1999) 'Learning in networks', Industrial Marketing Management, 28, 443-452. 9. Oerlemans, L.A.G. Meeus, M.T.H., Boekema F.W.M. (1998). 'Do networks matter for innovation? The usefulness of the economic network approach in analysing innovation'. Tijdschrift voor economische en sociale geografie, 1998, number 3, pp 298-309. 10. Dyer, J.H. and H. Singh (1998). "The relational view: cooperative strategy and sources of interorganizational competitive advantage'. Academy of Management Review, 23,4,660-679. 11. Chaston I. (1999) 'Existing propensity to co-operate: an antecedent influencing the potential performance of small-business networks?' Environment en planning C: Government and policy, 17, 567-576. 12. Stern, W.L. El-Ansari, A.I. Coughlan A.T. (1996). Marketing channels, 5th edition. Prentice-Hall, London. 13. Coppola, L. (2002) Supply chain implications of imported non-genetically modified soybean and maize gluten feed in the EU. Wageningen University and Research Centre. Wageningen. 14. Lambert, D.M. and M.C. Cooper (2000) Issues in supply chain management. Industrial Marketing management, 29, 65-83. 15. Ganeshan, R and T.P. Harrison (1995) An introduction to supply chain management. Retrieved from the WWW: http://silmaril.smeal.psu.edu?misc/supplv chain intro.html 16. Stevens, G.C. (1989) Integrating the supply chain. International Journal of Physical Distribution and Materials Management, 19,8,3-8. 17. Williamson, O. (1979) 'Transaction-cost Economics: the governance of contractual relations'. Journal of law and economics. 22,233-61.
125 18. Kennett, J. M. Fulton, P. Molder, H. Brooks (1998) 'Supply chain management; the case of a UK baker preserving the identity of Canadian milling wheat'. Supply Chain Management, 3, 3, 157-166. 19. Hobbs, J.E. andL.M. Young. (2000) 'Closer vertical co-ordination in agri-food supply chains: a conceptual framework and some preliminary evidence'. Supply Chain Management, 5,3,131-142. 20. Van der Vorst, J. (2000) Effective food supply chains. Generating, modelling and evaluating supply chains scenarios'. PhD thesis, Wageningen University, Wageningen. 21. Schrader, L.F. (1989). 'Economic justification', in D.W. Cobia (ed.) Cooperative in agriculture, Engelwood Cliffs, NJ: Prentice Hall, 121-137. 22. Cook, M.L. and C. Iliopoulos (2000). 'Ill-defined property rights in collective action: the case of US agricultural cooperatives', in: C. Menard (ed.) Institutions, contracts and organizations. Perspectives from new institutional Economics. Edward Elgar, Cheltenham, UK: 335-348. 23. Bijman, W.J.J. (2002) Essays on agricultural co-operatives: governance structure in fruit and vegetable chains. PhD thesis, Erasmus Research Institute of Management, Rotterdam. 24. Grossman, S.J. and O.D. Hart. (1986). 'The costs and benefits of ownership: a theory of vertical and lateral integration'. Journal of Political Economy. 94,4,691-719. 25. Kotler Ph., (2003) Marketing Management, Pearson Education International, New Jersey 26. Meeusen, M.J.G. et al. (2002). Biologische ketens in 2001. LEI, Den Haag, rapport 5.02.03. 27. Haan, D. de (2002). Samenwerking als overlevingsstrategie. PhD thesis, Katholieke Universiteit Nijmegen, Nijmegen School of Management. 28. Janzen, R, and J.J. de Vlieger. (1999) Ketenonderzoek streekproducten. LEI, Den Haag, rapport 3.99.11.
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127 MARKET SUCCESS OF PREMIUM PRODUCT INNOVATION: EMPIRICAL EVIDENCE FROM THE GERMAN FOOD SECTOR KEVIN T. MCNAMARA Dept. of Agricultural
Economics, Krannert Building, R.610, Purdue
West Lafayette, Indiana E-mail:
University,
47907-2056.USA
[email protected] CHRISTOPH R.WEISS Dept. of Economics,
Vienna University of Economics & Business Augasse 2-6, 1090 Vienna, E-mail:
Administration,
Austria.
[email protected] ANTJE WITTKOPP Dept. of Food Economics & Consumption Studies, University of Kiel, Olshausenstr. 24118 Kiel, Germany. E-Mail: awittkopp@food-econ.
40,
uni-kiel. de
It is well documented that a large share of new products does not survive the first year in the market. Research reported in this paper examined the relationship between product quality and innovation success. In contrast to existing product innovation research that focused on industrial goods, this study used food product data in a 2002 German food manufacturing firm survey. Results suggest that premium quality increases a firm's new product introduction success rate. Furthermore, larger firms tend to have higher success rates. Intensity of competition and retailers' market power reduce firms' new product introduction success rate.
1
Introduction
New products are of major importance for companies' performance. With them a firm aims to achieve certain sales and performance objectives. However, successful innovation requires considerable financial resources, thus it is a risky venture. In 2000, the German food industry spent 1.7 billion EUR on innovations, thereof spending 1.1 billion EUR on current innovation expenditure (i.e. staff and material expenses) [1]. At the same time, strong domestic and foreign competition and increased retailer market power limit firms' profit potential from their new product innovations. Market pressure also emanates from reduced product life cycle times because of fast technological changes and ever-changing customer needs. Thus, high numbers of failures of launched products are not astonishing. According to Fredericks and McLaughlin 50 per cent of new product innovations are sorted out within theirfirstyear in the market as they did not meet performance objectives [2]. In view of this, a question concerning a successful innovation strategy arises.
128 Within the scope of this paper we will go further into key determinants of product success. Existing literature focuses on industrial goods/products and firm specific attributes associated with marketing success. This paper focused on the effect of producer market structure and downstream trade level, as well as superior product quality (premium quality) on firms' product innovation success rate in the German food industry in 2002. Premium quality is one means of differentiating products from competitors' products, allowing for the development of imperfect competition and, thereby, giving a firm a competitive advantage. Hence, producers of premium products might attain higher (retail and consumer) prices. Consequently, premium quality products are associated with higher profits and stay on the market longer, giving the introducing firm a higher new product success rate. Retail market power, however, might have a negative impact on product success rate to the extent that retail firms can exert price pressure and lower attainable prices and manufacturers' profits. Emphasis is given to the food sector for three reasons. First, as Clarke et al. emphasize, among all areas of retailing, food retailing stands out to have experienced the most significant changes in market structure during the last decades [3]. Second, the food sector is particularly interesting because of the large number of innovations per year. According to Madakom 32,478 new products were introduced into the German food market in 2000. Innovative activity and a product's success or failure are heterogeneous among food industry sectors [4]. Third, the premium trend in foods is becoming increasingly important. The majority of firms is aware of the role of (superior) product quality in product success. This paper is arranged in three sections. Section 2 gives a review of empirical literature on determinants of product success. Data and empirical evidence is reported in Section 3. Section 4 offers conclusions. 2
Literature Survey
Understanding the influence of product and market attributes on the success of new product introduction is a key market development issue. Research of factors influencing product success has examined the issue by country, industry, method, innovation type, and performance (success) measures. Often the success measure used is subjective. The research has provided several insights into firms' new product marketing activity. Most of the research on new product marketing success has examined industrial product marketing. This section provides an overview of the general literature and then discussion of empirical results examining product innovation in the food industry. Early research on new product success tended to be descriptive case studies [5]. Research then moved to groups of cases [6] and surveys of larger extent [7]. A general criticism of this literature was the lack of information relating to the
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measurement of either product innovation success or failure. Rothwell et al. addressed this shortcoming in an analysis on innovations in the chemical industry in the United Kindom (SAPPHO project) [8], They used pairwise comparisons of 86 successful product innovations and failures in the chemical industry to test for factors associated with market success. Their research suggested that market factors (understanding of consumer needs, marketing) were important for new product introduction success. They also found a firm's organization and management structure were positively associated with a firm's ability to launch new products. Cooper examined the importance of product advantage, quality, and innovativeness to new product marketing success in a Canadian study (NewProd project) [9,10,11]. He also examined the relationship between the marketplace (degree of need for products in product class, degree of satisfaction with competitors' products), firm characteristics (such as synergies, R&D, advertising and promotion, market research, management, production resources as well as sales force and distribution resources) and successful product introduction. The study concluded that product innovations launched in markets with large demand, size and growth tended to be more successful than those launched in smaller markets. Further work by Cooper and Kleinschmidt identified the importance of quality of execution of innovation activities, such as marketing and technical support, and the role of product innovativeness, firm image, strong brand name and technical competence of the company in new product introduction [12,13]. Maidique and Zirger examined new product marketing in the U.S. electronic industry (Stanford Innovation Project)[14]. Their analysis of 276 products suggested that firm variables (management support, R&D process, marketing skills and resources, early market launch) were positively associated with successful product introduction. Production characteristics and marketing strategies (such as high performance-to-cost-ratio, product quality, utilization of synergies, customer satisfaction) were associated with new product success. Results of Link's research on the introduction of industrial goods in Australia[15] supported Maidique and Zirger [14]. Link's study also suggested that factors associated with the success and failure of new product introductions tended to be highly situation specific and differ according to the level of new product's innovativeness. Hultink and Robben examined factors associated with successful introduction of consumer goods, unlike prior research that focused on industrial goods[16]. They found successful consumer products were more innovative and associated with a broader assortment. Successful products were characterized by more personal selling and were launched in an early stage of product life cycle. In a later study Hultink et al analyze specifically the difference between industrial goods and consumer goods[17]. They showed that successful consumer goods (industrial goods) are more often developed in short to moderate (short) cycle times and introduced into moderately (strong) growing markets, have a relatively high degree of newness, launched with higher (similar) promotion expenses and priced similar to the competitors. Furthermore, industrial goods introduced in the maturity phase
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of the product life cycle to markets with only few competitors tended to be most successful. New product marketing research has generally examined industrial goods and consumer goods, although food industry products have been examined. Nystrom und Edvardsson were the first to examine new food product marketing [18]. Their study examined 20 major Swedish food manufacturers and their introduction of 121 new products marketed over the 1969-1978 period. The study found a positive relationship between firm's technology use and new product marketing success. Grunert and Sorensen examined the Danish, German and U.S. yogurt markets [19]. In contrast to earlier research, they focused firms introducing new products rather than on the new products themselves. They found evidence that a firm's product quality, market knowledge, marketing, and product development activities were associated with successful new product marketing. Likewise, Kristensen et al. focused on the company and its new product marketing success rate [20]14. Regression analysis of success rate on introduction and various control variables revealed that the launch rate, an extent to which trade fairs are used to promote new products, consideration of customer needs, market research, and market analysis were associated with new product success in the Danish food industry. Roggenkamp [21] examined the new product innovation in the German food industry. He studied index points for 111 products introduced over the 1987-1998 period. The index was developed according to retailers' perception of the specific product's marketing success. The index points were used as an endogenous variable in regression analysis of product success on market structure variables. Roggenkamp found a positive relationship between market size (an inverted ushaped impact of concentration) and a negative association between new product marketing success and product differentiation. To summarize, new product innovation research provides insight into firm market and product factors associated with marketing success despite heterogeneity, industry, methods and research design. The research suggests that investment in the product development process, realization of synergetic effects, R&D and technological activities, and a strong market orientation supported with advertising and promotion are associated with new product marketing success. Products that are highly innovative, benefit customers, have good performance-to-cost-ratios, and are unique tend to be most successful. The research results also stress the importance of product quality. While the majority of literature examined industrial products, there have been a number of studies relating to consumer goods and the food industry. One study examined the German food industry [21] but has noticeable shortcomings in applying a subjective measure of success and aggregated 4-digit data. Therefore, Kristensen et al. do not specify which proportion has to be exceeded in order to be considered as successful [20].
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the study could reveal the impact of market structure, but could not allow for firm characteristics and product attributes. In contrast to this, the present study uses survey data and the success rate of new products, i.e. a firm-based measure of products' success. While the literature has shown that product quality is important for product success, it is less clear how strategies formed to develop and introduce premium products (superior quality products) can increase product success. This paper's aim is a) to analyse factors determining new product success, b) to focus in particular on the relationship between premium quality and innovation success and c) to control for the influence of competitive intensity and retailers market power. 3
Data and Empirical Evidence
For this purpose we surveyed food industry firms in Germany in spring 2002. The survey questionnaire was designed to obtain data on companies' competitive environment, determinants of product innovation activities, and new product success. Special attention was given to collecting information about the introduction of premium products. Five hundred and thirty nine questionnaires were mailed to companies in food manufacmring listed in the "Presse-Taschenbuch Ernahrung", a handbook on food industry which is published by the Federation of German Food and Drink Industries (BVE) [22]. From 539 questionnaires, 119 (22 %) were returned. For further analysis only 44 questionnaires could be used due to data restrictions. The dataset consists of companies of all sectors of the food industry, which federal states are located in and the size categories they belong to. The majority of respondents were in the bakery, brewery and dairy sectors, the fewest from the malthouse, condiments, and coffee and tea processing sectors. Most respondents were smalland medium-sized companies (59%), with employment in the 3 to 8,500 job range. As endogenous variable and firm-based measure of new product's success we use the fraction of products launched within the period 1999 to 2001 which are still in w tn firm's assortment today, i.e. SR = ^^^Amp i AWP is the number of new or improved products launched within the period 1999 to 2001, and RNP is the number of those launched products which are still in firm's assortment today. Thus, we measure the average success rate of product innovations.15 Since 0 < SR < 1, one may be suspicious of the assumption of normality. Further, one may wish an estimator which ensures that predicted values for SR are in the interval (0, 1). A popular transformation to alleviate these problems is the logit transformation [23] where the dependent variable becomes TSR = ln[SR /(l - SR)]. The definition and descriptive statistics of all variables used is reported in Table 1. A similar measure has also been used in previous empirical studies [20],
132 Table 1. Definition and descriptive statistics of variables used (n = 44)
Percentage of launched products being a success (75ft). Logit transformation. Dummy variable for premium quality of products (TPREM4). Respondents were asked to evaluate their degree of picking up the premium quality trend with product innovations on a scale from 1 (not important) to 5 (very important). TPREM4 is set equal to 1 for firms reporting premium quality trend to be important and is set equal to zero otherwise. Consumption trends (ITREND). Respondents were asked to rank the importance of consumption trends for the market success of their most successful product innovation on a scale from 1 (least important) to 6 (most important). Advertising support (IADV). Respondents were asked to rank the importance of strong advertising support for the market success of their most successful product innovation on a scale from 1 (least important) to 6 (most important). Dummy variable for R&D activity (RD567). company's share of total sales spent on average on research and development on the following scale: (0) if the share is 0%; (1) if the share is between > 0% and < 0.25%; (2) if the share is between 0.25% and < 0.5%; (3) if the share is between 0.5% and < 0.75%; (4) if the share is between 0.75% and < 1%; (5) if the share is between 1% and < 1.5%; (6) if the share is between 1.5% and < 2%; (7) if the share is > 2%. RD567 is set equal to 1 for firms reporting R&D activity to be in group 5,6 or 7, and it is set equal to zero otherwise.
Mean (Std.Dev.)
Minimum Maximum
0.485 0.894 0.409 0.497
-0.325 3.178 0 1
4.409 1.245
1 6
2.955 1.238
1 5
0.136 0.347
0 1
133 Table 1. (cont'd)
Firm size (F1RMSIZ). Respondents were asked to classify firm sales on the following scale: (1) if sales are < 1 Mio. EUR/year (2) if sales are between 1 and < 5 Mio. EUR/year; (3) if sales are between 5 and < 25 Mio. EUR/year; (4) if sales are between 25 and < 50 Mio. EUR/year; (5) if sales are between 50 and < 100 Mio. EUR/year; (6) if sales are between 100 and < 250 Mio. EUR/year; (7) if sales are between 250 and < 500 Mio. EUR/year, (8) if sales are > 500 Mio. EUR/year. Dummy variable for the degree of competition in food manufacturing (COMP5). Respondents were asked to rank the degree of competition in their own industry on a scale from 1 (very low) to 5 (very high). The dummy variable is set equal to 1 if the respondent characterizes competition to be very high, and is set equal to zero otherwise. Dummy variable for retailer market power (PP45). Respondents were asked to evaluate retailers' pricing pressure on a scale from 1 (very low) to 5 (very high). The dummy variable is set equal to 1 if the respondent characterizes retailer pricing pressure to be high or very high, and is set equal to zero otherwise. Number of mergers & acquisitions the company has done between 1995 and 2001 (FUSION).
4.136 2.007
8
1
0.182 0.390
0 1
0.295 0.462
0 1
0.795 1.357
0 5
The research objective was to analyze the determinants of new product success rate. Empirical analyses of innovation success typically are based on those enterprises which have launched a new product in the previous time period. These studies are likely to face a sample selection problem. Suppose, that for some reason large firms are characterized by higher rates of innovation success than small firms. If smaller firms are less likely to be successful, the number of new products introduced by these firms will also be smaller. Small firms would only introduce a new product if this product has an exceptionally high probability of being successful. In any given time interval, therefore, success rates estimated on innovative firms will only be biased towards finding relatively higher success rates for smaller firms. This finding would be the result of a selection process - small firms would introduce only those products with the very best chances for being successful. More formally let the success rate for firm i TSRi be determined by a vector of exogenous variables x,: TSI^ = /? X, + si The actual success rate can be observed only for firms that have introduced a new product in the last three years. Let D77, be a dummy variable which is set equal
134 to 1 if a firm has launched a new product and is equal to zero otherwise. The willingness to introduce a new product DTI* is determined by a vector of exogenous variables w, where DTI is equal to 1 if DTI* > 0 : DTIi = y'wi + ui Further assume that f, and w, have a bivariate normal distribution with zero means and correlation p. The model that applies to the observation in our sample is E^SRftSRpbserved^E^SR^DTI* =
> o]
E[TSR\ul>-fw]
= Pxi + paeAi(au)
= P'xi + PM<x») with au =-fwilau
and !(«„) = ^(/'w,/crj/