Power structure and channel integration strategy for online retailers

Abstract

With the boom of e-commerce, express delivery has been increasingly regarded as a bottleneck and key factor for achieving success. Additionally, whether to include such express delivery service or not is an important yet outstandingly unsolved problem for online retailers. In this regard, this paper uses a game-theoretic framework to investigate the channel structure, in which an offline retailer competes with an online retailer selling products to consumers through its partner express company. The consumers purchase from either an online or offline channel considering the delivery service as well as the inconvenience of shopping from physical stores. We consider three power structures: online retailer Stackelberg game, offline retailer Stackelberg game and Nash game. Under each power structure, we characterize the channel integration strategy for the online retailer. Interestingly, our results show that the online channel integration is not beneficial for the online retailer in most cases. Online retailers prefer to use express companies as intermediaries to avoid large logistics operations costs in the offline retailer Stackelberg game and Nash game. Only in the online retailer Stackelberg game, where the online retailer has the first-move advantage in the market, together with a moderate store-visiting inconvenience cost and a delivery service cost coefficient, will vertical integration improve the online channel’s profit. Dominant market power ensures sufficient profit to cover the logistics cost, and the moderate inconvenience cost and service cost coefficient promise a moderate logistics cost. Under this condition, the online retailer will choose the vertical integration strategy. We show in the extension that this strict condition can be relaxed when the online retailer owns a mixed channel. The online retailer with a mixed channel has more incentive to integrate than a pure online retailer does, as the mixed channel adds his power and helps to gain more market shares and profit. Our analysis generates managerial insights into the relationship between online retailers and express companies and provides a guide for implementing the vertical integration strategy in the online retailing industry.