Optimal Contract Design for Mixed Channels Under Information Asymmetry

Abstract

The mixed‐channel model is becoming increasingly popular in the marketplace. In this model, a firm selling through the traditional supply chain of wholesaler and retailer opens a direct channel to the customer through Internet sales. Because both channels have their respective advantages, the manufacturer is attracted to this business model. However, it also leads to channel conflict, with the retailer feeling threatened by direct competition. One way of eliminating the possibility of this channel conflict, where the retailer is allowed to add value to the product to differentiate its offering to the customers, is proposed in this paper. The retailer is also given full authority to make pricing decisions. This paper presents a model, under this scenario, of obtaining optimum pricing decisions by both parties, the amount of value added by the retailer, and the manufacturer's wholesale price to the retailer. Our model incorporates information asymmetry, where the manufacturer has incomplete information about the retailer's cost of adding value. We obtain closed‐form contracts with incomplete information and compare them with those with complete channel coordination. We also develop a number of managerial guidelines and identify future research topics.