Signaling to Partially Informed Investors in the Newsvendor Model

Production and Operations Management. 24(3) 383-401.

38 Pages Posted: 20 Apr 2011 Last revised: 22 Oct 2021

See all articles by William Schmidt

William Schmidt

Cornell University - Samuel Curtis Johnson Graduate School of Management

Vishal Gaur

Cornell University - Samuel Curtis Johnson Graduate School of Management

Richard K. Lai

The Wharton School, Univ. of Pennsylvania

Ananth Raman

Harvard University - Technology & Operations Management Unit

Date Written: February 6, 2012

Abstract

We analyze a signaling game between the manager of a firm and an investor in the firm. The manager has private information about the firm's demand and cares about the short-term stock price assigned by the investor. Previous research has shown that under continuous decision choices and the Intuitive Criterion refinement, the least cost separating equilibrium will result, in which a low quality firm chooses its optimal capacity and a high quality firm over-invests in order to signal its quality to investors. We build on this research by showing the existence of pooling outcomes in which low quality firms over-invest and high quality firms under-invest so as to provide identical signals to investors. The pooling equilibrium is practically appealing because it yields a Pareto improvement compared to the least cost separating equilibrium. Distinguishing features of our analysis are that: (i) we allow the capacity decision to have either discrete or continuous support, and (ii) we allow beliefs to be refined based on either the Undefeated refinement or the Intuitive Criterion refinement. We find that the newsvendor model parameters impact the likelihood of a pooling outcome, and this impact changes in both sign and magnitude depending on which refinement is used.

Keywords: Capacity investment, inventory, signaling game, newsvendor

Suggested Citation

Schmidt, William and Gaur, Vishal and Lai, Richard K. and Raman, Ananth, Signaling to Partially Informed Investors in the Newsvendor Model (February 6, 2012). Production and Operations Management. 24(3) 383-401. , Available at SSRN: https://ssrn.com/abstract=1815207 or http://dx.doi.org/10.2139/ssrn.1815207

William Schmidt (Contact Author)

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Ithaca, NY 14853
United States

Vishal Gaur

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Ithaca, NY 14853
United States

HOME PAGE: http://www.johnson.cornell.edu/faculty/profiles/Gaur/

Richard K. Lai

The Wharton School, Univ. of Pennsylvania ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States
215 898 1630 (Phone)

Ananth Raman

Harvard University - Technology & Operations Management Unit ( email )

Boston, MA 02163
United States
617-495-6937 (Phone)
617-496-4059 (Fax)

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