The Impact of Heterogeneity and Ill-Conditioning on Diffusion Model Parameter Estimates
Authors: Bemmaor Albert C. , Lee Janghyuk 
Published: December 2003

Assessment of accurate market size and early adoption patterns is essential to strategic decision making of managers involved in new-product launches. This article proposes methodology that explains changes in parameter estimates of the Bass model, p (coefficient of innovation), q (coefficient of imitation), and c (market penetration rate) by direction of "extra-Bass" skew in the data, or equivalently, by underlying heterogeneity of the population. This research shows significantly opposite patterns of these parameter estimates, depending on skew of the diffusion curve detected by a generalized model, i.e., the gamma/shifted Gompertz (G/SG) model, which embeds the Bass model as a special case. The G/SG model originally presented in Bemmaor (1994) is based on two assumptions: (1) Individual-level times to first purchase are distributed shifted Gompertz and (2) individual-level propensity to buy follows a gamma distribution across the population. We assume that the scale parameter of the shifted Gompertz distribution is constant across consumers. The advantage the G/SG model has over alternative diffusion models such as the nonuniform influence model is that its cumulative distribution function takes a closed-form expression. In line with Van den Bulte and Lilien (1997), we analyze these opposite patterns from simulated data using the G/SG model as the true model and 12 real adoption data sets. The patterns are: (1) as the level of censoring decreases, the estimates of p and c decrease and those of q increase when data exhibit more right skew than the Bass model and (2) the estimates of p and c increase and those of q decrease when data exhibit more left skew than the Bass model. For the simulated data, we manipulated four dimensions: (1) "extra-Bass" skew in the data, (2) ratio q/p, (3) speed of diffusion, and (4) error variance. Both results of the simulated data and the real adoption data sets confirm the existence of two opposite patterns of parameter estimates of the Bass model depending on "extra-Bass" skew. When the model is correctly specified with simulated data, estimates of c increase and those of q decrease for both the Bass and the G/SG models. The estimates of p increase as one adds data points only for the G/SG model. No significant tendency in parameter estimates of p was detected for the Bass model. As for ill-conditioning issues, systematic changes in the parameter estimates of the G/SG model can be substantially larger in some cases than those obtained with the Bass model, even though the data were generated by taking the G/SG model as the true one. Therefore, model complexity can aggravate the tendency for parameters to change systematically as one adds data points. The forecasting results from the simulated data show the supremacy of the G/SG model. It provides more accurate results than the Bass model in the one-step ahead, two-step ahead, and three-step ahead forecasts. With the real data set, the G/SG model provides more accurate one-step ahead forecasts than the Bass model, but the model's forecasting performance deteriorates more rapidly than the Bass model when one shifts to two-step ahead and three-step ahead forecasts. The systematic changes in parameter estimates are larger for the more complex model. Our research shows that the G/SG model is a flexible model used to analyze the systematic changes in parameter estimates when specification error and ill-conditioning occur. As our findings incorporate two possible types of parameter estimate bias, compared to the previous single-direction view, they can provide essential information to enhance forecasting accuracy of products and services using new technological innovations. Our forecasting results of simulated and real adoption data raise a question about the optimal horizon of forecasting in applying flexible models of diffusion. The G/SG model also provides grounds to investigate jointly "the speed of takeoff" and "the diffusion speed after takeoff".