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Today, with the giant retailers (i.e. Wal-Mart, Home Depot, Lowe's, etc.) becoming more and more powerful in the retailing industry, the channel coordination between the manufacturers and the giant retailers has significantly reshaped supply chain management. There are several reasons for this. First, the giant retailer always has a large market demand in the retail market (Wahl, 1992; Epstein, 1994) and frequently is the largest distributor for the manufacturers (e.g. Wal-Mart is the world's largest retail seller, the total market share of Home Depot and Lowe's is more than 50 per cent in home improvement). Second, the giant retailer is able to offer much more demand-stimulating services to promote manufacturer's products. As a result, the giant retailer has made itself attractive for many manufacturers to engage in channel coordination, especially for those retailers whose market demand is super-large.

When the manufacturer and the giant retailer engage in channel coordination, an important question is what optimal service level, pricing strategy and market structure should be employed so that the manufacturer and the giant retailer can maximize their respective profits. In this paper, we consider a simple supply chain made up of one manufacturer and one giant retailer. We use a profit-maximization model to specifically study the following questions:

1. Under the non-coordinative structure and coordinative structure, what is the optimal service level and pricing strategy that the giant retailer should employ?

2. Under which structure can both the manufacturer and the giant retailer derive more profit?

3. Under what conditions will the coordinative structure be much more valuable?

The rest of our paper is organized as follows. Section 2 provides a summary of the relevant literature. Section 3 presents our modeling framework and analyzes the cases of non-coordinative structure and coordinative structure for the manufacturer and the giant retailer. Section 4 compares the two cases and presents our main results on optimal policies and sensitivity analysis. Conclusions and managerial implications are presented in Section 5.

Literature review

In this section, we review the relevant marketing literature to position our paper. Channel coordination has been studied by many researchers. Various mechanisms for coordinating supply chain channels have been proposed. For example, Jeuland and Shugan (1983) show that quantity discount can be employed to achieve channel coordination. McGuire and Staelin (1983) study the importance of product substitutability in a duopoly where each of two manufacturers sells its products through a single exclusive retailer. Their results show that selling through competing retailers is a better strategy than selling through a company-owned store if the degree of product substitutability is high. Gerstner and Hess (1995) propose that price discount can be employed to effectively improve whole channel performance.

For the retail sector, internationalisation is the latest stage in its continuing integration into a consumer driven globalised economy. Internationalisation is not the final stage. Nonetheless it is an important one, in the progressive development of retailing as an economic activity. Retailing is shifting from being the sales agent for manufacturing and agriculture to being the production agent for ...
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