By Rodney J. Johnson

Prescient Consulting, Inc.

A true understanding of the reality of fakes and the practice of counterfeiting is necessary to comprehend why counterfeits exist, and why we still see them on the streets, seemingly sold with abandon, right under the nose of law enforcement.  However we may feel about the correctness and efficacy of patent law, trademark law, copyright law, large corporations, and developing markets, we must understand that increasing the demand for fake products increases the cost to end users and consumers and the overall level of risk to everyone having to live in a world driven by markets. In short, the economics of counterfeiting touches us all, and the effects of counterfeiting threaten us all. Whether we are producers or consumers understanding why this is will help us to know what we can do about it and help us to make better decisions when confronted with possible counterfeit products.

Live by the Brand. Die by the Brand.
Counterfeiting feeds in various ways on various branding issues. Branding is a multifaceted thing, and companies, countries, and groups of all types build different brands in different ways for different purposes. Countries build the brand of trust through broad acceptance for their currencies. Counterfeiters of currency feed on this ubiquity and the recognition that comes from it to pass their fakes on as the real deal. Luxury brand companies build brands based on rarity, exclusivity, and quality. Fake luxury goods makers feed on these brand points in totally different ways.

All brands exist to reduce transactions costs. A transaction cost is the cost in time, money, and knowledge, required to complete a transaction. A consumer of a branded product need not find out what is 'under the skin' of the product - the brand does the work for him. Consumers who don't have the time, knowledge, or skill to evaluate alternatives, quality, or correctness for purpose are very reliant on brands to cut short the product selection process. A car buyer can't properly evaluate the quality of parts and construction for a potential car purchase. Neither can he evaluate the effect the design will have on his popularity with friends or how well the car will hold its resale value. The brand steps in to allow easy evaluation of all these things without 'real' knowledge or skill. The consumer need only trust the message that the brand has cultivated. That message is communicating the information he needs to know.

Brands cut down to their core not only communicate the value of a product, service, or experience to the consumer, but actually create that value. Information, aside from branding, is the key component of any product, whether it is a can of soup on a shelf in the supermarket or a sportscar in a sales lot. Whereas a can of tomato soup with a simple label saying 'tomato soup' on it may sell for $1 sitting on a shelf, the same can without any label at all is now worth almost nothing. How much would the average consumer be willing to pay for an opaque tin can of 'something' believed to be soup?  If the answer is 5 cents, then now we can see that the labeled information is actually 95% of the value of the product. And the soup in the can is only worth 5%. A brand is an attempt to enhance and control the information content in order to customize the 'value' being communicated for the benefit of both producer and consumer.

Of course, there are instances where the intrinsic value of the product and the value being communicated by the brand don't match. It is verification of the simple role of value communication by the brand that these cases can't and don't last long. Over time, the two must converge to bridge the gap. Either the intrinsic value must change, or the brand message will change - often against the will of the marketing department trying everything in their power to stop it.  It is this convergence that guarantees the lasting value of the brand as a barometer of 'what's inside the box'. Efforts by companies and organizations to confuse the market collapse when the truth gets around, a brand loses its lustre, and marketing money spent in the meantime trying to stop the convergence is simply wasted. Furthermore, when we say value, we don't mean quality. Value is much larger than quality, and includes 'all' the value that the product imparts to a consumer, including how ownership makes them feel about themselves.

Counterfeits feed on all of these points for profit. Counterfeiting is the alter ego of branding. It is the equal and opposite reaction in the marketplace of the success of the branding function. The more successful a brand is at communicating value, the higher percentage of the total value it creates. In effect, the brand becomes the product. The brand and product become completely intertwined to the point where the consumer chooses first the brand, and only second the product itself. Counterfeiters live for this situation. Counterfeiters love a company that does a good job branding, since what is to be counterfeited is not the product, which is difficult, but the brand, which is arguably easier. It is the highly successful way in which the producer has 'communicated' that has produced his favorable market position, but it is also this skill, that has attracted the counterfeiters and created the problem.

Enter the Twilight Zone
Counterfeiters share the same economic market as the rest of us, but the 'weirdness' of the situations counterfeiting creates are amazing. Because they share the same market they are not above the laws of profit and loss. As if in a parallel reality, counterfeiters feel their own market pressures. They do market research, market testing, quality control, and have distribution systems the real manufacturers may envy. Counterfeiters are also sensitive to the same trends as regular businesses and are currently experiencing things like outsourcing, offshore manufacturing, and the benefits of free trade.

Counterfeiters do business in direct competition with the authentic products they are counterfeiting, but they are also in competition with other counterfeiters of the same brand, substitute authentic brands, and substitute brand counterfeits. They also have their own brand problems. Counterfeits enjoy their own market standing, with successful ones enjoying a better 'brand image' than others, therefore allowing a higher market price. In a case of poetic justice, there are commonly instances where a counterfeiter may find others counterfeiting his counterfeits. The fact that this situation exists means that the vast majority of customers that purchase fakes are doing so with their eyes wide open - they are discriminating among fakes.

A counterfeiter who counterfeits Pharmaceutical Fake A is in competition with other Fake As, as well as the Real A, Real B, Real C, Fake Bs, and Fake Cs. This situation is eye opening since it means that authentic product makers may not even be taking into account who their actual competition is. Removal of counterfeits sometimes raises marketshare numbers for the authentic producer, and can even raise marketshare for everyone in the segment. Law enforcement bagging of a large counterfeiter is equivalent to having a large competitor exit the market. While Real A may have top market share in the country, Fake A may be number two. This means that Maker B might be willing to work to rid the market of Fake A, since it is Fake A that is the real competition of Real B, not just Real A. This further means that no one company should be standing alone in combatting counterfeiting. Removal of any one company's counterfeit products benefits the whole segment.

Further down the rabbit hole, there are instances where some companies don't want to rid the market of counterfeits of their product, but where their competitors may be willing to do it for them. This is true when Real A is not even available in the market. The producer of Real B is now competing against a phantom incarnation, Fake A, of a competitor that hasn't even committed any resources to the market. Furthermore, the counterfeiter of A has committed himself to launching an unproven brand in the marketplace, thus serving as a volunteer market tester for the producer of Real A. Usually, a company falls victim to counterfeiters when it has proven the desirability of its brand in the marketplace, but there are cases where proof in another market is enough. If the counterfeit A products do well enough, it could be just the proof needed for the producer of Real A to enter the market directly. Stranger still, the counterfeiter of A may hope Real A never does enter, and at the very least he will be miffed that Real A is piggybacking on his 'trailblazing' work.

Why They Are Not Easily Beat
As counterfeiters are so organized it would seem like eradicating counterfeiting should be easy. Just like everyone else, they must make money or move on. However, while the laws of profit and loss still exist for counterfeiters just like for everyone else, the sad fact is that it is almost impossible to rid the marketplace of them. Unfortunately for the companies being victimized by counterfeiting, there are many parallels between the market for counterfeit products and that for illegal drugs. And we have all seen how successfully law enforcement has been at ridding the streets of drugs.

For some products, counterfeiting is even more profitable than illicit drugs. Just like with illegal narcotics, some counterfeiters can lose 95% of their product shipments to law enforcement and still make money. This amazing profitability comes from the fact that many costs normally associated with bringing a product to market are born by the real producer, rather than by the counterfeiters. Counterfeiters have no R&D costs, no marketing costs, no insurance costs, no taxes, little overhead, lower labor costs, and very low distribution costs. Of course, raw materials costs are always less than at the real company.

Just like with drugs, the market for counterfeits is very demand driven. While most efforts to eradicate counterfeit production focus on finding large factories or key distributors, retail sites selling counterfeits play an especially important role in the process. Counterfeiters don't innovate, so they needn't ever take expensive market risks. They create 'only' what the market is already asking for and have no burden of guessing what next season's fashions are going to look like. In determining what to make it is the retail point of sale that has the most advantageous position to determine market demand, and it is the retail point of sale that pushes that information up the counterfeit production chain. While the retail sites may not manufacture any fakes themselves, they definitely know what they want to sell and ask for specifically that from the manufacturers.

Unlike illegal drugs, counterfeits come in thousands of flavors. Counterfeit products from fashion accessories to pharmaceuticals to airplane parts exist freely in the marketplace largely due to their diversity. These counterfeit products enjoy obscurity provided by the sheer numbers of different products available. It is virtually impossible for law enforcement to directly attack a counterfeiting problem when they have to be on the lookout simultaneously for thousands of counterfeits of thousands of different products. Furthermore, in many cases law enforcement officials can't tell what is a counterfeit and what is a real product. Education about the specific details of a company's products for law enforcement to use as a guide helps, but doesn't eradicate the numbers problem. Each time something new comes out in the market, a new 'drug' is sure to follow. Hundreds of law enforcement officers would need to be thrown at the problem, educated on and focused on a few specific products each. The costs in money and time are not easy to come by, especially when the issue is sometimes viewed as spending public money solely for the aid of rich corporations. Of course, the expense issue is further magnified when the producer in question is foreign.

What's the Big Deal and What We Can Do About It
The big deal is that counterfeits are no longer just about profit losses for a few companies. They are about some of the largest issues we have to deal with today - issues like trust in corporations, public health & safety, and globalization. There are no limits on the fake products being produced today and no limits on where they are sold. The vitamins we eat, the cars we drive, the components in our computer, the footballs we kick, all can be or contain fakes.

Clearly, the economics of counterfeiting are on the side of the counterfeiters and are unlikely to change anytime soon. Just as clearly, law enforcement alone has its limits. The fight against counterfeiting has champions in the producers of the authentic products and these champions have been struggling against counterfeits of their own products for years with mixed results. In some areas, the fight has become so extreme that huge sums of money have been spent at the same time that huge amounts of revenue have been lost. Some favorite targets of counterfeiting now assume no cover from counterfeiters and must work that reality into product forecasting. Companies always assume a product will generate less revenue once patent protection is gone, but in the case of counterfeits patents offer no protection from competition from day one.

It is clear that enforcement alone has a long, some would say impossibly long, road to travel in stopping counterfeiting. However, the fact that the counterfeiting industry is so demand driven implies there is one direct way for each and every individual to play a part in ending counterfeiting. We must stop knowingly buying them.