Retail channel management decisions under collusion

Abstract In unprofitable business circumstances, collusion may work to save investment and operations costs, which could fight off fierce business competition. However, collusive behavior may incur adverse impacts on consumers and multi-channel decisions in a supply chain. A common approach to deterring collusive behavior involves setting financial penalties. However, severe punishment could limit economic activities. To align with regulations and boost market vitality, in this paper, we investigate how the manufacturer chooses a competitive selling channel in a complex environment, and how it can design a compensation plan that can effectively mitigate such unethical behavior and coordinate the whole supply chain (channel). We find that collusion is an ‘unstable equilibrium’ and only works when both retailers are comparable. That is, when the retail market is extremely dominated by a stronger retailer, the profit of a smaller retailer would be gobbled up by the stronger one. Retailers’ collusion against the manufacturer seems like an advantageous strategy to maximize their profits, but we find that the retailers’ profits may be reduced because of collusion unless they are facing a greater market base. We then show that the profit margins of the manufacturer and the whole supply chain are squeezed; thus, introducing the online platform is one essential way for the manufacturer to address such collusion. We further propose a compensation and incentive contract with effective penalties through differentiating wholesale prices for retailers, which benefits the whole supply chain in terms of high profits. The key findings can provide useful decision support and operational guidelines for manufacturers with respect to making strategic retail channel management decisions.