Marketing-production decisions under independent and integrated channel structure

Abstract

The topic of channel structure has recently attracted much attention among researchers in the marketing and economics area. However, in a majority of the existing literature the cost considerations are extremely simplified with the major focus being pricing policy. What happens when cost incurring decisions are strongly connected with pricing policies? This is the theme we wish to explore in the present paper. The non-trivial costs considered are production, inventory, and retailer effort rate, i.e. we seek to explore the marketing-production channel. We have used the methodology of differential games. The open-loop Stackelberg solution concept has been used to solve the manufacturer and retailer's problem. The Pareto solution concept has been used to solve the problem of the vertically integrated firm. The production, pricing, and effort rate policies thus derived have been compared to obtain insights into the impact of channel structure on these policies. Also, to examine the relation between channel structure and the retailing operation requiring effort, we derive the Stackelberg and Pareto solutions with and without effort rate as a decision variable. We show that once the production rate becomes positive, it does not become zero again. This implies production smoothing. However, none of the gains of production smoothing are passed on to the retailer. The optimal production rate and the inventory policy are a linear combination of the nominal demand rate, the peak demand factor, the salvage value, and the initial inventory. Also, as opposed to some of the existing literature, the optimal policies need not necessarily be concave in nature. In the scenario where the relating operation does not require effort, the pricing policies of the manufacturer and the retailer, and the production policy of the manufacturer have a synergistic effect. However, in the scenario where the retailing operation does benefit from effort, the retailer's pricing policy need not necessarily be synergistic with other policies. With regard to channel structures, it seems that production smoothing will be done more efficiently in the integrated setup. Also, we show that the price paid by the consumer need not necessarily be lower in the integrated setup. But despite higher prices, the channel profits are higher in the integrated setup. This implies a conflict between the interests of the consumers and the firm. Also, this contradicts the results of some of the earlier papers that have used simple static models.