Transshipment between competing retailers

Abstract

This paper is based on observations that competing retailers have the option of either agreeing in advance to transship excess inventory to each other or seeing unsatisfied customers switch to the competitor for a substitute. A transshipment game and a substitution game between competing retailers is studied. After establishing the existence and uniqueness of a pure-strategy Nash equilibrium in retail prices and safety stocks for each game, it is shown that transshipment never leads to a lower retail price and a higher safety stock, so transshipment never leads to a situation that definitely benefits consumers. It is also shown that when the transshipment price is low and competition strong (perhaps because of low retailer differentiation), retailers should prefer consumers substituting. However, when the transshipment price is high and competition weak (with high retailer differentiation), then transshipment benefits them. Transshipment becomes less attractive as competition increases or retailer differentiation decreases. Competitive retailers serving the same market need to be cautious in agreeing to transship because they face larger opportunity costs than retailers serving independent markets. The results provide guidance for management as well as for public policy regarding transshipment in a competitive market. [Supplementary materials are available for this article. Go to the publisher's online edition of IIE Transactions for the following free supplemental resource: Appendix with proofs of statements in Transshipment Between Competing Retailers]