Why do competitors open shops next to each other?

Back in time, I used to wonder why Domino’s and Pizza Hut outlets are next to each other. They could have opened at different location and might have been able to serve customers in different segments. That’s what the socially optimal solution(SOS) would have been. But that’s not how the real life works.

Why so many similar companies appear in cluster is explained beautifully by Harold Hotelling in his theory Hotelling’s Model of Spatial Competition. Per Hotelling, each of the business houses wants the central location as it the most strategic point to cover most of the customers. More the customers, more the profit. For instance, in two mile coastal area in a straight line, you would likely want to set up the shop at the mid point as it is ideal location and equidistant on both side.

Assuming your cousin to decide to set up a shop. You people decide to divide the areas equally among oneself as we discussed above SOS. But humans are greedy 😀 Each one of us want to have higher profit. We start shifting the shops nearer to mid location. Game theorist coined a term to explain the phenomenon i.e. Nash Equilibrium, a state where moving the shops doesn’t help in gaining more irrespective of what other parties are doing. Hope it clears why’s there KFC next to McD.

The above scenarios are for physical space. We are living in the digital era now. How does tech giants apply these principle? Just by luring us to invest our precious attention on them. The strategic location in the digital space is consumer’s brain. Read more about it here.