The Impact of Capacity Information on Lexicographical Capacity Allocation

Posted: 9 Jun 2021

See all articles by Salar Ghamat

Salar Ghamat

Lazaridis School of Business and Economics

Hubert Pun

Ivey Business School

Date Written: June 4, 2021

Abstract

We consider a manufacturer selling products to two competing retailers: a high-priority one and a low-priority one. The manufacturer has a capacity constraint and it allocates capacity according to the lexicographic mechanism. The capacity information is either public or private, which makes our paper the first to examine the impact of capacity information on the capacity allocation problem of a manufacturer. We investigate two contract types: wholesale-price and wholesale-price-and-quantity. Our results show that when capacity information is public, the manufacturer will always prefer a wholesale-price contract. Moreover, it can benefit from a lower capacity limit (capacity scarcity) due to the retailer’s capacity-withholding behavior. Interestingly, the high-priority retailer may prefer that the manufacturer use a wholesale-price-and-quantity contract to limit how many items the retailer can order. When capacity information is private, the retailer can order more than the capacity of a low-type manufacturer to reveal the manufacturer’s capacity level under the wholesale-price contract. At the same time, the manufacturer may not want to supply all the order quantities to the retailers to avoid disclosing its capacity level. We find that pooling equilibrium can survive the Intuitive Criterion, and the manufacturer cannot benefit from capacity scarcity and withholding no longer occurs. Lastly, contrary to the case where capacity information is public, the manufacturer may prefer the wholesale-price-and-quantity contract when capacity information is private. Therefore, it is possible to achieve a win-win situation between supply chain partners with the right contract type, which is not possible when capacity information is public.

Keywords: capacity allocation; information asymmetry; lexicographic mechanism; retail competition; signaling game

Suggested Citation

Ghamat, Salar and Pun, Hubert, The Impact of Capacity Information on Lexicographical Capacity Allocation (June 4, 2021). Available at SSRN: https://ssrn.com/abstract=3860257

Salar Ghamat (Contact Author)

Lazaridis School of Business and Economics ( email )

Waterloo, Ontario N2L 3C5
Canada

Hubert Pun

Ivey Business School ( email )

1151 Richmond Street North
London, Ontario N6A 3K7
Canada

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