The Effects of Selling Formats and Upstream Competition on Product Pricing and Quality Design

Abstract

Problem definition: In practice, consumers are directly or indirectly connected with branded manufacturers through intermediaries across industries. In this paper, we explore the effects of different selling formats on product quality and price depending on consumer valuations in a market. We employ a distribution family to comprehensively capture the heterogeneity of consumer valuations. Motivated by realistic phenomena, consumer valuations are used to investigate strategic decisions under different selling formats that are not trivial to analyze. Methodology/results: We develop game-theoretical models to examine the equilibrium decisions of stakeholders. The impact of consumer valuations is investigated and validated using sensitivity analysis, and the results are connected to practice. First, we find that agency selling induces a premium quality and maximizes the channel profit; remarkably, a nonmonotonic (approximate U-shaped) relationship exists between the agency fee and consumer valuations. A higher consumer surplus can be achieved in an agency selling channel compared with a reselling channel, particularly when targeting a mass of high-end consumers. Second, by examining distinct consumer valuations, maintaining top-notch quality and the highest price in an agency selling channel is not universally viable under some conditions. Third, in the case of production-level competition, an agency selling format tends to cause product quality to vary noticeably. Moreover, in the hybrid selling channel, in contrast to agency selling, the high-type manufacturer reduces both quality and price, which bolsters the overall profits of the channel and the consumer surplus. Managerial implications: Branded manufacturers can efficiently respond to individualized consumer needs in a centralized distribution channel. In contrast, for selling basic products, the reselling channel could contribute to achieving economies of scale and offering competitive prices. In the agency selling channel, standardized pricing determined by branded manufacturers can create a consistent perception of product quality throughout the distribution network. Funding: The research of L. Hsiao was supported by Ministry of Science and Technology (now National Science and Technology Council), Grant/Award Number: MOST 110-2410-H-005-016-MY3. The research of Y.-J. Chen was supported by the HK RGC General Research Fund [GRF 16500821, GRF 16501722, and HKUST C6020-21GF]. Supplemental Material: The online appendix is available at https://doi.org/10.1287/msom.2022.0470 .