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PRICINGANDREPLENISHMENTSTRATEGIESINADISTRIBUTION
SYSTEMWITHCOMPETINGRETAILERS
FERNANDOBERNSTEIN
TheFuquaSchoolofBusiness,DukeUniversity,Durham,NorthCarolina27708,fernando@
AWIFEDERGRUEN
GraduateSchoolofBusiness,ColumbiaUniversity,NewYork,NewYork10027,af7@
Weconsideratwo-echelondistributioandrateof
eachretailerdependsonalloftheretailers’prices,oralternatively,thepriceeachretailercanchargeforitsproductdependsonthesales
plierreplenisheshisinventorythroughorders(purchases,productionruns)fromanoutside
ere,ngcostsareincurredforallinventories,whileall
supplierordersandtransferstotheretailersincurfifirstcharacterizethesolutiontothecentralizedsystemin
whichallretailerprices,salesquantitiesandthecompletechain-widereplenishmentstrategyaredeterminedbyasingledecisionmaker,
e.g.,,thesupplierchoosesawholesalepricingscheme;theretailers
inguishsystematicallybetweenthecaseofBertrandandCournot
ormer,eachretailerindependentlychooseshisretailpriceaswellasareplenishmentstrategy;inthelatter,eachofthe
retailersselectsasalestarget,y,thesupplierrespondstotheretailers’choices
aseofCournot
competition,themechanismappliesadiscountfromabasicwholesaleprice,basedonthesumofthreediscountcomponents,whicharea
functionof(1)annualsalesvolume,(2)orderquantity,and(3)orderfrequency,respectively.
ReceivedDecember1999;revisionreceivedDecember2001;acceptedJune2002.
Subjectclassifications:Games/groupdecisions,noncooperative:priceandquantitycompetitionamongnonidenticalretailers.
Inventory/production,multi-item/echelon/stage:ory/production,policies,
marketing/pricing:coordinatingmechanismsviadiscountingschemes.
Areaofreview:Manufacturing,Service,andSupply-ChainOperations.
UCTION
Intheirattempttoimproveoroptimizeaggregateperfor-
mance,manysupplychainsincreasinglyinvestigateand
comparetheirperformanceundercentralizedanddecen-
entralizedsystem,each
chainmemberoptimizeshisownprofil-
lengethereforeconsistsofstructuringthecostsandrewards
ofallofthechainmemberssoastoaligntheirobjectives
withaggregatesupply-chain-wideprofiostand
rewardstructureisreferredtoasacoordinationmecha-
ecentralizedcostandrewardstructureresults
inchainwideprofitsthatareequaltothoseachievedunder
acentralizedsystem,thecoordinationmechanismiscalled
perfect.
Inthispaper,weaddressthesequestionsforthefollow-
ingprototypetwo-echelondistributionsystemwithcom-
ierdistributesasingleproductor
closelysubstitutableproductstomultipleretailers,whichin
tailer’ssalesoccurat
aconstantratewhichdependsonthepriceschargedbyhim
aswellasthosechargedbyallotherretailers,accordingto
agivenretailerspecifiatively,the
priceeachretailercanchargeforhisproductdependson
-
plierreplenishesherinventorythroughorders(purchases,
productionruns)fromanoutsidesourcewithamplesupply.
0030-364X/03/5103-0409$05.00
1526-5463electronicISSN
Fromthere,-
ryingcostsareincurredforallinventories,whileallsup-
plierordersandtransferstotheretailersincurfixedand
variablecosts,allwithfacility-specifi
consideroneadditionalcostcomponent:thesuppliermay
incuraspecificannualcostformanagingeachretailer’s
lthe“managementcosts”
associatedwitharetaileraccountbyaconcavefunctionof
theretailer’sannualsalesvolume,reflectingeconomiesof
stcomponenthasbeenconsideredbyChen
etal.(2001);seethereforadiscussionofhowsuchaccount
and
functionsandcostparametersarestationaryandcommon
knowledgeamongallchannelmembers.
Wefirstcharacterizethesolutiontothecentralizedsys-
teminwhichallretailerprices,salesquantities,andthe
completechainwidereplenishmentstrategyaredetermined
,ct
optimal(centralized)strategyisunknownand,inanycase,
ofsuchcomplexstructureastoprecludeitsimplementabil-
ity,evenifitcouldbecomputedinareasonableamount
ldsevenforthefarsimplercasewhereall
are,however,abletoderiveefficientlycomputablelower
andupperboundswhichareshowntobetight,when-
evertheretailers’grossprofitmargins[=(retailprice−
409
OperationsResearch©2003INFORMS
Vol.51,No.3,May–June2003,pp.409–426
410/BernsteinandFedergruen
wholesale
(say,
excessively
atleast
price)/wholesaleprice]arenotexcessivelylow
represents
large
20%),
(say,
and
less
theannual
than30%).
holding
The
costrateisnot
prices
icy
under
the
the
profit
optimal
ofa
power-of-two
strategywithstationary
lower
retailer
bound
ers.
to
when
(Under
service
apower-of-two
thecorrespondingsales
replenishment
ratesatallretail-
pol-
stant
theirinventoryisdown
policy,
tozero
all
and
facilities
eachuses
replenish
con-
power-of-two
replenishment
the
tionary
upper
multiple
intervals,
ofagiven
specified
base
as
period.)
afacility-specific
Similarly,
imum
retail
bound
prices
represents
employing
theprofit
alower
of
bound
astrategywithsta-
responding
setup
sales
andholding
at
costsincurredtoservice
forthe
the
min-
cor-
supplier
Weproceed
respond
chooses
with
the
awholesale
the
retailers.
decentralized
pricingscheme;
,the
variables.
to
of
We
this
distinguish
schemebyeachchoosingallof
the
his
retailers
policy
retailer
Bertrand
replenishment
independently
andCournot
systematicallybetweenthecase
selects
strategy;
chooses
ormer,each
inthe
his
latter,
retail
each
price
of
as
the
well
retailers
asa
ment
choices
strategy.
asalestarget,
Finally,
again
thesupplier
incombination
responds
withareplenish-
ishment
by
pricing
strategy.
implementing
Wefocus
her
initially
owncost-minimizing
totheretailers’
on
replen-
sale
Bertrand
price
schemes
foreach
where
unit
eachretailerpaysa
linear
constant
wholesale
whole-
librium
eter
may
andCournotcompetition
purchased.
that,
We
while
show,
a
under
Nashequi-
both
in
combinations,
failto
an
exist
equilibrium
undercompletely
(inpure
general
strategies)
param-
is,
retailer’s
fact,guaranteed
annual
priceelasticity
under
of
a
demand
condition
to
which
the
relatesthe
(This
isfied
condition
salesand
is,
his
again,
combinedinventoryand
ratio
setup
of
costs.
his
slightly
in
is
stronger
virtuallyallproduct
shown
categories.)
tobecomfortably
Arelated
sat-
and
librium
eed
condition
with
guarantees
acomparison
that
between
theequilibrium
theequi-
the
We
discount
case
next
under
of
derive
Bertrand
aperfect
andCournot
coordination
competition.
of
from
Cournot
abasic
competition,
wholesale
the
price,
mechanism
basedon
applies
the
a
(1)
three
frequency,
annual
discount
salesvolume,
components,
(2)order
whichareafunction
sum
of
optimal
in
centralized
respectively.
solution
Under
arises
this
quantity,and(3)order
as
discountscheme,the
which
theresulting
mal
allNashequilibria
ve
aNash
conditions
equilibrium
under
form
supply-chain-wideprofits,
inthe
thus
retailer
giving
game
rise
achieve
toastrong
opti-
competition,
ofperfect
arise
discounts
coordination.
basedon
In
the
the
annual
absence
sales
of
volume
retailer
as
in
demonstrated
onlyinthe
in
presence
Chenet
of
al.
account
(2001).
managementcosts,
required
thepresence
coordination
evenif
ofretailercompetition,
On
such
the
discounts
otherhand,
are
nale,
tionand
within
symmetric
the
mechanism
noaccount
context
thus
management
providesan
costs
economic
prevail.
ratio-
The
bargaining
ofamodel
power
with
for
complete
allretailers,
informa-
for
wholesale
sales
discount
volumes,
prices
one
tobe
ofthe
discountedonthebasisofannual
and
We
El-Ansary
,
most
Brown
prevalent
andMedoff
forms
1990,
ofprice
Stein
pricing
showthatfor
1992,
each
and
retailer
Munson
thiscoordinating
andRosenblatt
wholesale
1998).
incurred
scheme
nitude
forthis
is
retailer,
given
augmented
bytheper
by
unit
a
“indirect”costs
impact”,
of
presents
first
to
a
which
measure
increases
markup,themag-
theremainder
forthe
withtheso-called“competitive
of
degree
themarket.
ofcompetition
(Thismeasure
aretailer
was
compete
introduced
perfect
inprice
in
space
Bernstein
(i.e.,
et
face
al.2002.)Iftheretailers
more
coordinationcanbeachieved
Bertrand
withasimilar,
competition),
albeit
a
We
complex,discountscheme.
simple
decentralized
assessthe
system
value
by
of
analyzing
(perfect)coordination
settingsinwhich
within
retailers
linear
channel
andno
wholesale
othermeasures
pricing
are
schemeisofferedtothe
a
of
ket
thesystem,
members’
assuming
decisions.
either
Weanalyze
takento
the
coordinate
performance
the
or
powertospecifythelinear
that
wholesale
thesupplier
pricing
hasthe
scheme,
mar-
mize
that
chain
the
the
supply-chain-wide
constantwholesale
profits.
priceis
In
chosensoastoopti-
supplier
members
ing
as
areengagedinaStackelberg
thefirst
game
case,
with
the
the
Stackelberg
thenoncooperative
theleaderand
retailer
theretailers
gamedescribed
following
above.
byplay-
The
supply-chain-wide
solutionoftenresultsinmajorlossesinthe
on
Themarketingliterature
profits.
onchannel
a
model
simple
pricing
channel
decisions.
with
Jeuland
one
andShugan
coordination
(1983)consider
focuses
sions
authors
or
does
resulting
notconsiderany
supplier
inventory
and
replenishment
deci-
perfect
foundthat
setup
asimple
andinventory
quantitydiscount
carrying
results
costs.
in
The
a
model,
ishment
the
coordination
“quantity”
mechanism.
doesnotrefer
Because
tothe
theirsisastatic
native,
orderbuttotheannualsalesvolume.
size
As
ofa
an
replen-
alter-
setting,
Moorthy
two-part
perfectcoordination
(1987)showed
canbe
that
achieved
inthissingle-retailer
withasimple
cost
consider
plus
tariff,
afixed
i.e.,
franchise
bycharging
e
theretailerthemarginal
ing
authors
inprice
thespecial
space
caseoftwoidentical
and
retailers,
Staelin
compet-
(1983)
different
assumethat
under
thetwo
linear
retailers
procurement
aresupplied
costs.
by
These
two
grated
further
with
manufacturers
theirretailer
which
ornot.
are
See
either
Moorthy
vertically
(1987)
inte-
(1983),
Ingene
observations
authors
by
andParry(1995)
onthis
generalize
model.
for
JeulandandShugan
by
retailers.
anyconstant
show
allowing
thatperfect
for
coordination
twononidentical
cannot
retailers.
beachieved
The
by
Instead,
wholesale
theyderive
price
aperfect
which
coordination
isidenticalfor
scheme
both
the
discounting
posed
retailers’purchase
thewholesale
volumes.
price
While
asa
attractive,
linearfunctionof
than
isclearly
two
scheme
or
the
when
failswhenthenumberofretailersis
the
larger
pro-
casein
the
our
procurement
operational
costs
model
are
with
nonlinear,
inventory
as
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