Production, Manufacturing and Logistics Marketing-driven channel coordination with revenue-sharing contracts under price promotion to end-customers Jiuh-Biing Sheu ⇑ Institute of Traffic and Transportation, National Chiao Tung University, 4F, 118 Chung Hsiao W. Rd., Sec. 1, Taipei 10012, Taiwan article info Article history: Received 2 November 2009 Accepted 27 April 2011 Available online 12 May 2011 Keywords: Supply chain management Channel coordination Promotional effect Revenue sharing abstract This paper explores the equilibrium behavior of a basic supplier-retailer distribution channel with and without revenue-sharing contracts under price promotion to end-customers. Three types of promotional demand patterns characterized by different features of dynamic price sensitivity are considered to ratio- nalize price promotional effects on end-customer demands. Under such a retail price promotion scheme, this work develops a basic model to investigate decentralized channel members’ equilibrium decisions in pricing and logistics operations using a two-stage Stackelberg game approach. Extending from the basic model, this work further derives the equilibrium solutions of the dyadic members under channel coordi- nation with revenue-sharing contracts. Analytical results show that under certain conditions both the supplier and retailer can gain more profits through revenue-sharing contracts by means of appropriate promotional pricing strategies. Moreover, the supplier should provide additional economic incentives to the retailer. Furthermore, a counter-profit revenue-sharing chain effect is found in the illustrative examples. Such a phenomenon infers that the more the retailer requests to share from a unit of sale the more it may lose under the revenue-sharing supply chain coordination scheme. Ó 2011 Elsevier B.V. All rights reserved. 1. Introduction Supply chain coordination under retail price promotion remains challenging in the areas of both marketing and operations manage- ment. In reality, such marketing-manufacturing interface issues were first discussed by Shapiro (1977) who pointed out that mar- keting and manufacturing decision makers are less coordinated. In practical areas, conflicting marketing-manufacturing problems, such as the incongruence between the retailer’s promotion and manufacturer’s production, can be easily found in the supplier-re- tailer channels of grocery and high-tech product industries. Whereas, dyadic channel members aim at assuring their own inter- ests without adapting some opportunistic tasks to gain channel benefits (Iyer and Jain, 2003). Some researchers in management science also argue that price promotions may have a positive im- pact on manufacturer revenues. However, their effects on retailer revenues are mixed, depending on the promotional effort and com- mitment of the retailer (Srinivasan et al., 2004). Gerstner and Hess (1995) particularly stress that such diversion of total profits within a distribution channel may lead to channel conflict. Therein, the dyadic channel members can arbitrarily make self-interested oper- ational decisions leading to a pernicious destruction of mutual profits. In effect, channel coordination based on the concept of vertical integration which addresses double marginalization effects has been the mainstream in supply chain management (SCM) research. Double marginalization was first characterized in Spengler (1950), followed by a vast number of researchers devoted to channel coor- dination mechanisms from different perspectives such as econom- ics (Machlup and Taber, 1960; Gal-Or, 1985; Klemperer and Meyer, 1986), marketing science (Jeuland and Shugan, 1983; Gerstner and Hess, 1995), and operations management (Cachon and Lariviere, 2005; Anand et al., 2008). (Jeuland and Shugan, 1983) discuss sev- eral mechanisms for channel coordination, where both profit shar- ing and quantity discounts are suggested as two feasible and complementary measures. Gerstner and Hess (1995) further sug- gest targeted pull pricing strategies in which discounts are offered directly to those price-conscious customers to gain more channel profits. Nevertheless, they also point out several drawbacks such as difficulties in targeting the aforementioned price-conscious cus- tomers and the costs in implementing the strategy. In previous studies of operations management, coordinating contracts such as buy-back contracts (Pasternack, 1985), quan- tity-flexibility contracts (Tsay, 1999), price-discount contracts (Bernstein and Federgruen, 2005), and revenue-sharing contracts (Cachon and Lariviere, 2005; Koulamas, 2006) have continuously gained researchers’ recognition as feasible mechanisms for supply chain coordination. The induced effects, however, vary with exog- enous demand and operational conditions. For instance, Cachon 0377-2217/$ - see front matter Ó 2011 Elsevier B.V. All rights reserved. doi:10.1016/j.ejor.2011.04.031 ⇑ Tel.: +886 2 2349 4963; fax: +886 2 2349 4953. E-mail address: jbsheu@mail.nctu.edu.tw European Journal of Operational Research 214 (2011) 246–255 Contents lists available at ScienceDirect European Journal of Operational Research journal homepage: www.elsevier.com/locate/ejor