Ratcheting of Profitability Expectations and its Consequence for Supply Chains

Posted: 18 Aug 2015 Last revised: 13 Jul 2021

See all articles by Brian Mittendorf

Brian Mittendorf

Ohio State University (OSU) - Fisher College of Business

Jiwoong Shin

Yale School of Management

Dae-Hee Yoon

Yonsei University

Date Written: August 17, 2015

Abstract

Supply chains exhibit a curious mixture of collaboration and self-interest, and this mixture gives rise to firms working toward a common goal while simultaneously taking actions to shield themselves from one another’s exploitation. This paper studies one such case, where the incentive of a retailer to invest in boosting demand when facing the strongest demand potential is muted due to the fear that the ensuing spike in profits will ratchet the expectations and pricing of its supplier. In a simple model of multi-period supply chain interactions, we demonstrate that such a desire to stave off ratcheting has the potential to undermine supply chain profitability, but such concerns may be mitigated by self-interest on the part of the supplier when we endogenize the supplier's response to such concerns. In particular, the supplier uses deep discounts of initial input prices to convince the retailer to focus on short-run profits rather than long-run ratcheting concerns. These deep discounts not only encourage mutually beneficial investments, but also alleviate double-marginalization inefficiencies along the supply chain. Therefore, our model not only presents a scenario where ratcheting concerns are endogenous, but also one where it can be socially optimal to permit firms to withhold forward looking information and only disclose realized performance results, a key tenet of public policy for financial accounting regulations.

Keywords: ratcheting, information disclosure, supply chain, and pricing

Suggested Citation

Mittendorf, Brian and Shin, Jiwoong and Yoon, Dae-Hee, Ratcheting of Profitability Expectations and its Consequence for Supply Chains (August 17, 2015). AAA 2016 Management Accounting Section (MAS) Meeting Paper, Available at SSRN: https://ssrn.com/abstract=2646233

Brian Mittendorf

Ohio State University (OSU) - Fisher College of Business ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States

Jiwoong Shin

Yale School of Management ( email )

165 Whitney Avenue
PO Box 208200
New Haven, CT 06520
United States
2034326665 (Phone)
06520 (Fax)

HOME PAGE: http://faculty.som.yale.edu/JiwoongShin/

Dae-Hee Yoon (Contact Author)

Yonsei University ( email )

School of Business
Seoul
Korea, Republic of (South Korea)

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