Manufacturer-Optimal Wholesale Pricing When Retailers Compete

Abstract

The existing marketing science literature on channels of distribution has emphasized pricing strategies that maximize either channel or manufacturer margin. This emphasis has implicitly assumed that optimal wholesale prices are independent of any fixed fees charged by the manufacturer. While this assumption is justified in a single-manufacturer, single-retailer world, it generally does not lead to manufacturer profit maximization in a world of competing retailers. In this paper we derive a manufacturer-optimal wholesale pricing strategy by simultaneously determining both elements of a two-part tariff (consisting of a wholesale price and a fixed fee). We show that the manufacturer will always prefer this "sophisticated" pricing strategy to one that maximizes either channel or manufacturer margin. We also show that both elements of the optimal tariff are functions of the absolute difference between retailer fixed costs.