Modelling pricing, vertical co-op advertising and quality improvement in a non-cooperative three-echelon supply chain using game theory approach

Abstract

Vertical cooperative (co-op) advertising is one of the well-known mechanisms for coordination of supply chains. Vertical co-op advertising is a financial agreement in which a member of the chain pays certain percentage (i.e. cooperation rate) of a subsequent member’s advertisement cost. Since increasing the number of echelons and decision variables in supply chain problems increase the modelling and computational complexity, most researchers study vertical co-op advertising in a two-level supply chain including a manufacturer and a retailer. This paper investigates the problem by considering price and quality levels as additional decision variables in a three-echelon supply chain consisting of one supplier, one manufacturer, and one retailer. The ultimate goal is to show supply chain managers the importance of product quality as well the role of local advertisement in positively influencing market demand on top of the traditional approach of speed and efficiency optimization. Using game theory approach, power of the manufacturer is assumed to be higher than or equal to those of others in the chain. Five different relationships between players are considered in five non-cooperative games (named as G1–G5) and equilibrium solutions are extracted for each. The results show that the manufacturer prefers to play Stackelberg with the retailer and the supplier rather than be in conflict with them in Nash game. Such preference can lead manufacturer towards high quality and cost-efficient product/service via efficient advertisement in our complex network of business firms.