Retailer Buyer Power Does Influence Wholesale Market Price, New Study Finds

It's often assumed that in the supply chain market, both suppliers and retailers influence the wholesale market price paid by retailers to suppliers. However, the extant models for supply chain competition fail to reflect buyer power on the part of retailers, and instead show that the wholesale price and the order quantity per retailer do not change with the number of retailers.

In a new study, researchers address this disparity by developing a competition model based on the market-game mechanism in which the wholesale price is determined based on both suppliers' and retailers' decisions. The study found that as the number of retailers increases, each retailer's buyer power decreases, and the wholesale price increases when each retailer is willing to pay more for their order. The study also analyzed the integration of two local supply chains and demonstrated that such integration might reduce the total profit of firms in a retailer-oriented supply chain that has more retailers than suppliers.

The study, by researchers at Carnegie Mellon University, Bilkent University, and University College London, appears in Management Science.

"It is well known that a competitive model of a supply chain in which multiple retailers and multiple suppliers transact is hard to model and analyze. This paper provides theoretical underpinnings of research in supply chain competition," says Soo-Haeng Cho, Associate Professor of Operations Management at CMU's Tepper School of Business, who co-authored the study along with Tepper School doctoral graduates C. Gizem Korpeoglu (Ph.D. 2015) and Ersin Körpeoğlu (Ph.D. 2015).

Retailers Exercise Significant Buyer Power

Local supply chains have transformed dramatically with the advent of globalization as most have integrated into decentralized, global supply chains. With more suppliers linked than ever before, the market power of both entities has presumably changed, though it's unclear how supply chain expansion and integration has impacted prices, quantities, and profits. While current models of supply chain competition address suppliers' seller power, they fail to acknowledge how retailers influence wholesale prices.

The researchers note that in practitioner reports, retailers are recognized for possessing buyer power and therefore proposed a model to capture buyer power, seller power, competition among firms, and new entrants in a two-tier supply chain. They used the market-game mechanism to model a wholesale market where multiple suppliers sell to multiple retailers. Suppliers impact the wholesale price by changing their production decisions and retailers impact the wholesale price by changing their procurement decisions.

The analysis demonstrates that as the number of retailers increases, each retailer experiences decreased buyer power. Since retailers are willing to pay more for their orders, the wholesale price increases, leading suppliers to up their production so that retailers receive larger order quantities. Therefore, having a larger number of retailers raises the wholesale price and order quantities.

Competition Improves Profits on Both Sides

The study also shows that supply chain expansion intensifies competition among suppliers, which in turn raises retailer profit and reduces supplier profit. It also corroborates the hypothesis that when there are more retailers in a supply chain, supplier profit goes up due to a higher wholesale price and larger order quantities. Additionally, an increased number of retailers also increases retailer profit, especially if there is a large number of suppliers. The researchers explained that this is because the positive impact of a larger order quantity outweighs the negative impact of a higher wholesale price.

The researchers also found that supply chain efficiency increases with the number of suppliers and retailers and that reducing entry barriers facilitates the supply chain expansion.

Finally, the researchers studied the integration of two local supply chains and demonstrated that such integration happens when the supply chains experience lower transaction costs between both supply chains. Profits rise when both supply chains are retail oriented or both supply chains are supplier oriented. Though if one supply chain is more retailer oriented than the other, profits could potentially decrease after integration.

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Summarized from an article in Management Science, "Supply Chain Competition: A Market Game Approach" by Korpeoglu, C. Gizem (Bilkent University), Körpeoğlu, Ersin (University College London), and Cho, Soo-Haeng (Carnegie Mellon University). Copyright 2019. All rights reserved.