Coordinating Inventory and Pricing Decisions Under Total Minimum Commitment Contracts

43 Pages Posted: 4 Jun 2020 Last revised: 17 May 2021

See all articles by Xiting Gong

Xiting Gong

The Chinese University of Hong Kong (CUHK)

Frank (Youhua) Chen

City Univ. of Hong Kong - College of Business, Dept of Management Sciences

Quan Yuan

Zhejiang University

Date Written: May 7, 2020

Abstract

A total minimum commitment contract is a supply contract under which a firm commits to buying a minimum quantity of a product from its supplier during the contract duration (e.g., one year). Such contracts are widely used in industries, because they provide the buyer with flexibility in terms of the timing and size of each individual order and the supplier with a guaranteed total order volume. Previous studies on such contracts are primarily concerned with the firm's inventory decisions, but none of them has considered the coordination of inventory and pricing decisions. In this paper, we fill this gap by studying dynamic inventory and pricing problems under a commitment contract. Under a general demand model with backlogging and zero lead time, we prove that the optimal policy is a committed-inventory-position-dependent base-stock list-price policy and characterize its structural properties. We also conduct an extensive numerical study to derive further managerial insights. In particular, we find that dynamic pricing can substantially improve the firm's profitability and enables it to select contracts with large committed quantities and price discount rates, and ignoring the commitment in joint pricing and ordering decisions can result in substantial profit loss. Finally, we partly extend our results to a lost-sales model and a backlogging model with positive lead times.

Keywords: inventory management, dynamic pricing, supply contract, total minimum commitment, quantity commitment

Suggested Citation

Gong, Xiting and Chen, Frank (Youhua) and Yuan, Quan, Coordinating Inventory and Pricing Decisions Under Total Minimum Commitment Contracts (May 7, 2020). Available at SSRN: https://ssrn.com/abstract=3595053 or http://dx.doi.org/10.2139/ssrn.3595053

Xiting Gong

The Chinese University of Hong Kong (CUHK) ( email )

Room 906, 9/F, Cheng Yu Tung Building
12 Chak Cheung Street, Shatin, N.T.
Hong Kong
China

HOME PAGE: http://www.bschool.cuhk.edu.hk/staff/gong-xiting/

Frank (Youhua) Chen

City Univ. of Hong Kong - College of Business, Dept of Management Sciences ( email )

Kowloon Tong
Hong Kong

HOME PAGE: http://www.cb.cityu.edu.hk/staff/youhchen

Quan Yuan (Contact Author)

Zhejiang University ( email )

38 Zheda Road
Hangzhou, Zhejiang 310058
China

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