Wholesale or drop-shipping: Contract choices of the online retailer and the manufacturer in a dual-channel supply chain

Abstract

We consider a dual-channel supply chain consisting of a manufacturer, an online retailer, and a physical store, where the online order is fulfilled by either the conventional wholesale contract or the drop-shipping contract. We study the vertical and horizontal competitions among the three members via considering different power structures of the supply chain. To derive the contract choices of the online retailer and the manufacturer, we construct three game models to determine their optimal pricing decisions, investigate the corresponding applicable conditions and the most profitable power structure under each contract, then compare the profits between the two contracts. We find that: (i) The drop-shipping contract is the only option when the product's matching probability and the travel cost to the physical store are relatively low. (ii) No matter under which contract, the online retailer can benefit from the unbalanced bargaining power between the dual-channel retailers. But the manufacturer makes the most profit if the two retailers have the same bargaining power under the wholesale contract or if the online retailer is the first-mover under the drop-shipping contract. (iii) For the online retailer, the contract choice always depends on the profit-sharing ratio. For the manufacturer, the contract choice depends on the profit-sharing ratio if the product's matching probability and the travel cost to the physical store are moderate. Otherwise, either of the two contracts should be adopted under certain circumstances regardless of the profit-sharing ratio.