Estimating the Dynamic Effects of Online Word-of-mouth on Member Growth of Internet Social Networks

While several sources tout the superiority of word-of-mouth over traditional marketing communication techniques, it still remains unclear how to measure word-of-mouth and how to compare its relative effectiveness in improving long-term performance. Internet social networking sites offer an attractive opportunity to study word-of-mouth due to their consistent and efficient tracking of electronic referrals. The authors test for and find endogeneity among WOM-referrals, signups, event marketing and media appearances. A Vector Autoregressive (VAR) modeling approach captures this dynamic feedback system and gives estimates for the short-term and long-term effects on signups. The authors find that word-of-mouth benefits carryover much longer than traditional marketing actions do. The long-run elasticity of signups to WOM appears close to 0.5 – at least 2.5 times larger than average advertising elasticities reported in the literature. For the analyzed firm, the estimated WOM effect is about 20 times higher than the elasticity for marketing events, and 30 times larger than that of media appearances. Using the contribution of advertising income from a signup, the authors calculate the economic value for a referral, providing an upper bound for financial incentives to stimulate word-of-mouth.