Inventory Commitment and Monetary Compensation under Competition

43 Pages Posted: 6 Dec 2018 Last revised: 19 Apr 2022

See all articles by Junfei Lei

Junfei Lei

University of Washington - Department of Information Systems and Operations Management

Fuqiang Zhang

Washington University in St. Louis - John M. Olin Business School

Renyu (Philip) Zhang

The Chinese University of Hong Kong

Yugang Yu

University of Science and Technology of China (USTC)

Date Written: April 19, 2022

Abstract

Problem definition: Inventory commitment and monetary compensation have been widely recognized as effective marketing strategies in monopoly settings when customers are concerned about stockouts. To attract more customer traffic, a firm reveals its inventory availability information to customers before the sales season, or offers monetary compensation to placate customers if the product is out of stock. In this study, we seek to integrate the newsvendor and Hotelling models to investigate these two strategies when retailers compete on both price and inventory availability.

Methodology/results: We develop a game-theoretic framework to analyze the strategic interactions among the retailers and customers and draw the following insights. First, both inventory commitment and monetary compensation may lead to a prisoner’s dilemma. Although these strategies are preferred regardless of the competitor’s price and inventory decisions, the equilibrium profit of each retailer could be lower in the presence of inventory commitment or monetary compensation, because they both would intensify the competition between the retailers. Second, contrary to the common wisdom, we find that market competition may hurt social welfare compared to a centralized setting by reducing the product availability under equilibrium. The inventory commitment and monetary compensation strategies further intensify the competition between the retailers, therefore causing an even lower social welfare.

Managerial implications: Our study shows that, although inventory commitment and monetary compensation improve retailer’s profit and social welfare under monopoly, these strategies should be used with caution under competition.

Keywords: Inventory availability, retail competition, inventory commitment, monetary compensation

Suggested Citation

Lei, Junfei and Zhang, Fuqiang and Zhang, Renyu and Yu, Yugang, Inventory Commitment and Monetary Compensation under Competition (April 19, 2022). Available at SSRN: https://ssrn.com/abstract=3292199 or http://dx.doi.org/10.2139/ssrn.3292199

Junfei Lei

University of Washington - Department of Information Systems and Operations Management ( email )

Box 353200
Seattle, WA 98195-3200
United States

Fuqiang Zhang

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

HOME PAGE: http://www.olin.wustl.edu/faculty/zhang/

Renyu Zhang (Contact Author)

The Chinese University of Hong Kong ( email )

Shatin, N.T.
Hong Kong, Hong Kong
China

HOME PAGE: http://rphilipzhang.github.io/rphilipzhang/index.html

Yugang Yu

University of Science and Technology of China (USTC) ( email )

96, Jinzhai Road
Hefei, Anhui 230026
China

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