Competitive strategies and quality to counter parallel importation in global market

Abstract

When selling products globally in geographically separated markets with price discrimination, manufacturers often have to compete with parallel importers (PIs) who sell “gray products,” purchasing the manufacturers’ authorized products in low-price markets and reselling them in high-price markets. In this paper, we show that manufacturers can use ex ante quality design along with distribution strategies to mitigate the negative impacts of parallel importation. We develop game-theoretic models for a supply chain with a manufacturer and a PI, in which the manufacturer needs to determine distribution structure (either selling through high-price market exclusively, or selling through two channels), product quality, and retail prices. If a dual-channel structure is selected, the manufacturer also should decide the channel opening time in the low-price market, either early or late. Our results suggest that (1) the manufacturer should strategically choose a lower quality level when designing its product to weaken the PI's competitiveness; (2) the manufacturer's optimal distribution strategy is determined by the gap between customers’ willingness to pay (WTP) in the two markets and the customer's tolerance for late consumption; and (3) parallel importation hurts the customer surplus (CS) and social welfare (SW) in the low-price market, and benefits CS and SW in the high-price market when the two markets are moderately balanced. We then consider several important extensions to provide additional insights. Firstly, we show that the appropriate marketing investment in the low market can effectively counter the PI. Secondly, we examine the impact of multiple competing PIs on the manufacturer's decisions, including distribution strategy, quality design, prices, and profit. Lastly, we find that the advertising effect may motivate the manufacturer to improve product quality and benefit both the manufacturer and PI if the effect is relatively strong.