Fight or Flight? Market Positions, Submarket Interdependencies, and Strategic Responses to Entry Threats

This paper examines how incumbent firms’ market positions and interdependencies across their submarkets influence their responses to entry threats. We adapt a model of capacity deterrence to show that because premium and low-cost incumbents face different demand functions and operating costs, they experience different tradeoffs between ignoring, deterring, and accommodating threatened entry. In addition, the interdependencies within and between a premium incumbent’s submarkets influence its responses. Using data on incumbent responses to entry threats from Southwest Airlines between 2003 and 2012, we find that (1) full-service incumbents expanded capacity while low-cost incumbents did not respond significantly, and (2) full-service incumbents expanded capacity less aggressively in submarkets that had less substitutable customer segments and submarkets that were more complementary with their unthreatened submarkets.