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Vol. 0, No. 0, xxxxxxxx 2016, pp.

113
ISSN 1059-1478|EISSN 1937-5956|16|00|0001

DOI 10.1111/poms.12549
2016 Production and Operations Management Society

What Happens When Manufacturers Perform The


Retailing Functions?
Jia Li
Krannert School of Management, Purdue University, 403 West State Street, West Lafayette, Indiana 47907, USA, jial@purdue.edu

Tat Y. Chan
Olin Business School, Washington University in St. Louis, One Brookings Drive, Campus Box 1133, St. Louis, Missouri 63130-4899, USA,
chan@wustl.edu

Michael Lewis
Goizueta Business School, Emory University, 1300 Clifton Road, Atlanta, Georgia 30322, USA, mike.lewis@emory.edu

his study examines the effects of a relatively new channel structure on prices and sales in a large department store,
which in recent years has switched the management of many of its product categories from a traditional retailer-managed system to a manufacturer-managed system. We find that the change caused overall retail prices to decrease. However, there was significant heterogeneity in the response across brands. In the cell phone category, brands with high
market shares and inelastic demand did not change prices. In the watch category, the retail prices of relatively low-end
brands decreased while the prices of premium brands increased substantially after the switch. In addition to sales
increases due to lower prices, we find that the channel structure change further caused sales to increase by 910% in the
cell phone category and by 1117% in the watch category. These results are consistent with previous theoretical predictions. We believe that our results provide important academic and managerial implications due to the increasing prevalence of manufacturer-managed systems in the retail industry.

Key words: retailing; channel management; decision delegation; empirical study; marketing
History: Received: January 2015; Accepted: December 2015 by Amiya Chakravarty, after three revisions.

1. Introduction
In a traditional retail channel structure, a retailer
typically sells multiple differentiated products produced by multiple manufacturers. Manufacturers
determine wholesale prices and the retailer selects
order quantities, sets retail prices, conducts in-store
promotions and manages the sales staff. We refer to
this traditional structure as a retailer-managed retail
(RMR) system because the retailer determines and
manages the marketing environment faced by consumers. This structure may be advantageous
because retailers typically have better information
about consumer demand in the local market and
possess core competencies in retailing activities such
as merchandising and promotion planning. In addition, previous research (Coughlan 1985, McGuire
and Staelin 1983) has found that using a retailer as
an intermediary may reduce competition between
manufacturers and may thereby be preferable for
manufacturers whose products are highly substitutable. However, RMR suffers from well-known
channel coordination issues such as double-margin-

alization (Spengler 1950) and information distortion


(Lee et al. 1997). These coordination challenges
make it difficult for manufacturers and retailers to
resolve their conflicting interests and maximize the
total channel profit (Cachon 2003).
Recently, manufacturer-managed retailing (MMR)
systems have become increasingly popular. For example, in all major U.S. department stores, categories
such as jewelry, cosmetics, and apparel have been
managed under MMR. In contrast to RMR, in a MMR
system manufacturers set up selling counters and hire
their own sales staff to sell their products inside a
retail store. In return, the retailer is paid a percentage
of the total sales revenue generated in the store. MMR
has gained popularity because it has the potential to
reduce channel conflicts and can thereby benefit both
retailers and manufacturers. First, because manufacturers sell their own products and decide their own
retail prices under MMR, the double-marginalization
problem is eliminated. Second, MMR systems may
also reduce the frequency of stock-outs and the bullwhip effect for manufacturers with high demand
variability.

Please Cite this article in press as: Li, J., et al. What Happens When Manufacturers Perform The Retailing Functions?. Production and
Operations Management (2016), doi 10.1111/poms.12549

Li, Chan, and Lewis: Manufacturers Performing the Retailing Functions


Production and Operations Management 0(0), pp. 113, 2016 Production and Operations Management Society

However, MMR may have its own potential issues.


On one hand, if negotiations between retailers and
manufacturers result in retailers claiming excessively
high shares of sales revenues, manufacturers may
have to set prices above the level that optimizes total
channel profits. On the other hand, in MMR the direct
competition between manufacturers within a store
can potentially result in more intensive price competition that leads to lower retail prices. Because of these
two conflicting forces, it is not entirely clear if retail
prices will be lower under MMR. In addition, revenue-sharing between the retailer and manufacturers
may lead to distortions in non-price promotional and
selling efforts from both parties. For example, since
the retailer does not retain all sales revenues it is
likely to have less incentive to push in-store promotions. Thus, it is also not clear if MMR will generate
higher retail sales than RMR. Better understanding
the consequences of RMR and MMR requires empirical investigation, which is the purpose of the current
study.
Our study utilizes data from a Chinese department
store that shifted from RMR to MMR in many product
categories. Although confined to a single retailer, this
type of quasi-experiment enables us to conduct direct
tests of the impact of the channel structure change.
This before-and-after analysis provides significant
advantages relative to a cross-sectional study. In this
study, we focus on two categories: cell phones1 and
watches. The nature of the shifts from MMR to RMR
differed across these two categories. In the cell phone
category all brands were first sold under RMR and
then were simultaneously switched to MMR. This
one-time policy change enables a clean comparison of
the whole category under the two channel structures.
In contrast, in the watch category, brands were
switched one by one from RMR to MMR over time. In
addition to the two focal categories, we also obtained
data from the same time period for another two product categories sold in the same department store,
and data from another department store located in
the same area that did not change channel structure
during the sample period. This enables us to use
controls to rule out alternative explanations that the
observed impacts of the channel structure change
were due to demand or cost shocks at the market or
store level.
Our results show that after switching to MMR the
average retail prices across all brands decrease in both
the cell phone category and the watch category by
10.7% and 3.34.3%, respectively. The magnitude of
the price decrease reflects the intensified price competition among manufacturers under MMR. The price
decreases drive higher sales. After controlling for
price effects, we find an additional 910% sales
increase in the cell phone category, and an 1117%

sales increase in the watch category. Although we


cannot identify from the data the exact factors that
drive the additional sales increase, the store management indicated that manufacturers increased the size
of sales staffs and offered a higher commission. We
further explored how the effects of switching to MMR
differ across brands using a latent class regression
approach. Results show that in the cell phone category the effects are the strongest for brands with
small market shares and for those with more elastic
demand. In the watch category, relatively low-end
brands cut prices while premium brands increase
prices after the channel structure change. Both types
of brands still experience sales growth. The increase
in prices of the high-end brands is a surprising result
since competition generally increases in a MMR
system.

2. Literature Review
Our research contributes to the operations and marketing literature on channel management. The current
literature does not provide adequate analysis of the
increasingly popular phenomenon in practice, that is,
MMR. To the best of our knowledge, this is the first
empirical study to directly test the consequences of
MMR systems.
Our research is closely related to the vertical relationship and channel coordination literatures. As previously mentioned, a widely recognized channel
coordination issue is the double-marginalization
problem, that is, retailers charge higher retail prices
than the optimal level which maximizes total channel
profits (Shepard 1993, Spengler 1950). Numerous theoretical studies have focused on how to use various
transfer pricing schemes or other formal agreements
to improve channel coordination (e.g., see Cachon
2003, Cachon and Lariviere 2005). Policies such as
implicit understanding (Shugan 1985), formation of
conjectures (Jeuland and Shugan 1988) and category
captainship (Kurtulus et al. 2014, Subramanian et al.
2010) have also been studied. However, those models
are seldom empirically tested in the marketplace due
to the lack of data. Moreover, the majority of studies
in this literature focuses on the case of a monopoly
manufacturer.
In reality, retailers such as the department store in
our data, typically sell multiple differentiated products. McGuire and Staelin (1983) show that in a market with duopoly manufacturers, vertical integration
is a stable equilibrium channel structure when interbrand substitutability is low, though it does not necessarily maximize the total profit for the channel. When
products are highly substitutable, however, independent retailers provide a buffer that reduces the price
competition between manufacturers. Coughlan (1985)

Please Cite this article in press as: Li, J., et al. What Happens When Manufacturers Perform The Retailing Functions?. Production and
Operations Management (2016), doi 10.1111/poms.12549

Li, Chan, and Lewis: Manufacturers Performing the Retailing Functions


Production and Operations Management 0(0), pp. 113, 2016 Production and Operations Management Society

generates similar conclusions for a wide set of


demand functions. Moorthy (1987) derives some general conditions under which this type of decentralized
channel structure is a Nash equilibrium. Choi (1991)
studies a similar case with two competing manufacturers selling substitutable products through a common independent retailer. Rey and Stiglitz (1995)
propose that in markets with imperfect competition,
vertical restraints such as exclusive territories can be
used to reduce the degree of inter-brand competition.
On the other hand, a single manufacturer may sell its
product through not only independent retailers but
also its own stores, leading to a dual channel structure. Consequently, competition can arise between
the independent retailer and the manufacturer-owned
store, a phenomenon often referred to as supplier
encroachment (Arya et al. 2007, Li et al. 2014, Wang
et al. 2009). Arya et al. (2007) show that while introducing competition between the supplier and the
retailer, supplier encroachment can mitigate double
marginalization and thus benefit both sides, if the
retailer is more efficient in the retail process. Our
study provides a comparison between the outcomes
when manufacturers sell through a retailer (RMR)
and when they directly integrate with the retail
activities and compete on the same retail floor
(MMR). These empirical results are complementary to
the above theoretical literature.
This study also complements the growing body of
empirical research on channel management. Some
researchers have identified and quantified the vertical
relationship between retailers and manufacturers.
Kadiyali et al. (2000), for example, measure the power
of channel members by looking at how channel profits are divided. They find that greater channel power
results in greater share of the total channel profit.
Sudhir (2001) studies competition among manufacturers under alternative assumptions of vertical interactions with one retailer. Villas-Boas (2007) extends the
work by allowing for multiple retailers. These studies
focus on the more traditional channel structure, that
is, RMR. In addition, they use cross-market or crossstore data and rely on structural assumptions of vertical strategic interactions between manufacturers and
retailers. The current study provides empirical testing
of the economic consequences of two channel systems
using a quasi-experiment within a retail store.
Previous empirical research has also examined various methods such as information sharing, synchronized replenishment and collaborative product
design that could facilitate the coordination between
manufacturers and retailers. Clark and Hammond
(1997) study the use of continuous replenishment programs (CRP) in the grocery products supply chain.
They find that implementing CRP improves the channel performance to a substantially greater degree than

using electronic data interchange (EDI) alone. Lee


et al. (1999) examine the CRP used by Campbells and
its retailers and document performance improvements in terms of inventory efficiency and stock-out
reduction.
Vendor-managed inventory (VMI) is a popular system for facilitating channel coordination. In a VMI
system, retailers provide manufacturers with access
to their real-time inventory levels and let them decide
inventory replenishments (Aviv and Federgruen
2003, Mishra and Raghunathan 2004). Cachon and
Fisher (1997) identify the benefits of VMI for Campbells but argue that these benefits are achieved
through information sharing. Dong et al. (2014), however, show that the transfer of inventory decision
making from the retailer to the manufacturer under
VMI also significantly improves channel performance. Direct-Store-Delivery (DSD) is another
method to facilitate channel coordination, where
upstream manufacturers are responsible for delivering product to retail stores, managing store shelf
space and inventory, and planning and executing instore merchandising (Kurtulus and Savaskan 2013).
Chen et al. (2008) empirically examine the economic
efficiency of DSD systems using cross-market data.
MMR is similar to VMI and DSD in the sense that
manufacturers also have autonomy in controlling
inventory and product delivery. Under MMR, however, the retailer also delegates many other decisions,
including pricing and sales staff management, to
manufacturers. This leads to many economic consequences that have not been explored in the empirical
literature. For example, since manufacturers also set
retail prices and manage product selling within
stores, competition in pricing and service provision
may be intensified. In recent work, Jerath and Zhang
(2010) use a theoretical model to study the storewithin-a-store phenomenon, which essentially is the
same as MMR. They show that the increased competition drives down retail prices but manufacturers
enjoy higher profits. Consequently, manufacturers
have a greater incentive to invest in providing better
customer services. Our study provides empirical tests
for their analytical results. Furthermore, their model
assumes that retailers charge manufacturers an
up-front fixed rent, which is different from a MMR
system under which retailers charge manufacturers a
percentage of sales revenue. We also investigate the
possibility of heterogeneous responses to MMR across
manufacturer brands, and find several interesting
results that are not predicted by Jerath and Zhang
(2010). In another related study, Abhishek et al.
(2015) theoretically examine the price implications
when an online retailer changes from the traditional
reselling arrangement (i.e., RMR) to agency
selling (similar to MMR) in a multi-channel retailing

Please Cite this article in press as: Li, J., et al. What Happens When Manufacturers Perform The Retailing Functions?. Production and
Operations Management (2016), doi 10.1111/poms.12549

Li, Chan, and Lewis: Manufacturers Performing the Retailing Functions

Production and Operations Management 0(0), pp. 113, 2016 Production and Operations Management Society

exit. Many new brands were only available in the


store for 1 or 2 years before pulling out, or being
replaced by the store with a new brand. In the empirical analysis, we focused on brands with a consistent
presence for the entire 4 year period. We further
excluded from the analysis two brands that merged in
the third year. We also followed a suggestion from
the store management to drop another brand that dramatically altered its brand position and marketing
strategy. Table 1 provides some summary statistics of
the remaining 10 brands.
Overall, the 10 brands dominated category sales
throughout the sample period with an average total
market share of 82%. We compared the pricing and
sales trends for the 10 brands with the overall category and did not find any significant difference.
Hence, we believe that the exclusion of other brands
should not have a major impact on the empirical
results. Prior to the switch to MMR, prices and sales
of the cell phone category in the store had been
declining over time. This was consistent with the
managements observation that the store was facing
more and more competition from the new emerging
cell phone specialty stores in the market. Table 1
shows that there are two clear segments among the 10
brands brands 14 have much larger market shares
(based on quantity sales) and annual sales revenues
than brands 510. Prices are also quite different as the
average price of brand 4 is the highest at US$297.28,
while brand 6 is the lowest at $142.59. However, since
there is a large within-brand price variation across
models (comparing the minimum and the maximum
prices in Table 1) depending on the functionality,
attributes, and model introduction date, there is no
obvious segmentation between brands based on
price.
For the watch category, there are 14 brands in our
data. We excluded one that only had a short presence
in the store. Table 2 presents summary statistics for
the remaining 13 brands. Over the sample period

environment (online and offline) in which sales in one


channel may have an impact on sales in another channel. Due to data limitations our study only focuses on
a single channel.

3. Data and Channel Structure Changes


Our data is sourced from one of the largest department stores in China. We collected information on
transaction-level sales, prices and promotional discounts for a period of four calendar years. In addition,
we also obtained data on store advertising and counter locations of each brand inside the store. In interviews, the store management expressed their view
that, like other big retailers in China, the department
store had significant channel power as manufacturers
need the store to reach consumers in the local market
(manufacturer-owned stores were not as common as
in the United States.).
The retailer initially used traditional RMR but since
1990s has gradually switched its categories to MMR.
The management stated that historically categories
with low profits to the store were believed to be prime
candidates for MMR. The major reasons were that,
firstly, they believed there was a strong incentive for
manufacturers with poor sales to improve service and
hence sales. Secondly, MMR helps improve the financial liquidity of the store. Under RMR the store has to
pay manufacturers up-front for shipments. The managers also emphasized that they had the bargaining
power to make these manufacturers agree to the new
contracts lest they would not sell in the store. During
our data collection window about 90% of products
were managed under MMR.
In this study, we focus on the cell phone and watch
categories. The number of cell phone brands varied
from 56 to 65 in our data. During this period, government policy was to allow easy access to the telecommunications market. As a result, competition within
the industry was intense with significant entry and

Table 1 Cell Phone Category Summary Statistics


Annual market share
(%)

Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand

1
2
3
4
5
6
7
8
9
10

Annual sales revenue


(US$1000)

Weekly retail price


(US$)

Mean

Min

Max

Mean

Min

Max

Mean

Min

Max

Average
weekly
feature ad.

19.46
17.90
12.83
12.03
6.18
4.58
4.21
2.13
1.40
1.88

15.72
11.92
8.26
9.87
3.17
1.03
1.88
1.29
0.75
0.56

25.99
25.82
22.77
16.37
8.42
6.49
5.95
4.64
2.60
2.49

3980
3292
1207
2724
636
464
789
380
329
258

3367
2959
992
2519
625
407
759
347
297
217

4394
3712
1539
2995
654
494
824
413
356
297

199.51
216.67
174.75
297.28
153.83
142.59
293.58
196.42
191.36
147.90

128.64
148.02
112.30
222.10
105.93
73.46
100.49
124.32
104.94
91.85

437.90
339.88
253.28
402.84
216.71
208.40
594.81
246.67
320.12
207.28

0.19
0.19
0.29
0.15
0.27
0.25
0.14
0.15
0.21
0.13

Average
no. of
models
49
55
33
15
15
13
21
12
19
22

Please Cite this article in press as: Li, J., et al. What Happens When Manufacturers Perform The Retailing Functions?. Production and
Operations Management (2016), doi 10.1111/poms.12549

Li, Chan, and Lewis: Manufacturers Performing the Retailing Functions

Production and Operations Management 0(0), pp. 113, 2016 Production and Operations Management Society

Table 2 Watch Category Summary Statistics


Annual market share
(%)

Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand
Brand

1
2
3
4
5
6
7
8
9
10
11
12
13

Annual sales revenue


(US$)

Weekly retail price


(US$)

Mean

Min

Max

Mean

Min

Max

Mean

Min

Max

Average
weekly
feature ad.

1.01
1.29
2.46
8.02
10.22
2.71
2.10
10.17
13.73
11.05
15.48
7.26
16.94

0.45
0.33
1.07
6.69
7.66
1.19
1.29
8.50
10.52
9.15
9.71
1.54
13.56

2.07
1.92
4.64
10.28
11.02
4.44
3.23
11.56
18.83
12.63
19.21
11.62
24.66

141,048
103,767
73,235
33,439
21,354
14,948
10,266
11,139
11,501
7591
5440
2965
2724

76,809
68,916
56,963
30,735
17,376
11,891
3853
10,237
10,063
6527
2511
1232
1938

30,3613
132,301
110,476
35,839
26,607
16,798
13,305
12,392
13,232
9222
7653
3984
4770

6632.75
2399.07
1988.06
736.65
514.72
376.07
290.33
278.52
277.32
171.17
95.31
89.31
55.64

2603.25
1301.63
1126.41
400.50
255.32
190.24
127.66
154.19
85.11
125.78
37.30
40.55
20.38

22,528.16
10,438.05
3379.22
1752.07
833.46
650.81
600.75
455.78
429.90
570.71
312.89
261.58
140.39

0.008
0.005
0.013
0.069
0.074
0.060
0.074
0.078
0.129
0.083
0.092
0.069
0.079

average retail prices increased as the result of increasing commodity prices. However, this price change
did not result in a decrease in sales. Similar to the cell
phone category, there is also significant heterogeneity
across brands. Average prices in the category range
from US$56 for brand 13 to $6633 for brand 1. The difference is so substantial that brand 1 generates the largest annual sales revenue even though its market
share in terms of quantity sales is only 1%. In contrast,
brand 13 has the largest quantity sales but its annual
revenue is the smallest in the store.
As noted, a key feature of the data is a switch from
RMR where the store determined retail prices, managed the inventory, and hired and managed sales
staff. Following the change to MMR all of these
responsibilities were shifted to individual manufacturers. For the cell phone category, the switch was
abrupt and applied to the whole category at the same
time. Prior to April of the fourth year all brands were
under RMR. At the end of February in that year, the
store made the decision to switch to MMR. Negotiation of revenue sharing contracts with individual
manufacturers began in March and the first brand
started switching to MMR in the middle of April. By
the end of April, all brands had switched to the new
retailing system.
In contrast, the switch to MMR in the watch category was a gradual process. Six major brands operated using MMR at the beginning of the data
collection period. One brand (brand 12) switched
from RMR to MMR in September of the first year. This
was followed by changes for brands 7 and 5. In
September of the third year, brand 1, the most expensive brand, was switched to MMR. The store then
switched brand 4, another high-end brand, in April of
year 4. At the end of the fourth year (the end of our
data collection period), only brands 2 and 3 were still
operated as retailer-managed brands.

Average
no. of
models
83
130
118
116
96
156
102
139
77
105
54
82
55

The store management stated that no major events


such as sudden changes in production and selling
costs, or entry and exit among manufacturers, had
driven the shift toward MMR. Rather, the adoption of
MMR was viewed as a method for dealing with the
long term trend of growing competition that was
common to all department stores in the market. In
particular, discount and specialty stores had been
emerging as important competitors for many categories including cell phones and watches. The general
view of the retailer is that MMR is a means for reducing competitive pressures and for shifting risk to
manufacturers. Such rationale is consistent with the
arguments made by Jerath and Zhang (2010). We
therefore make an important identification assumption in our empirical tests. That is, after controlling for
observed factors in data, the channel structure
changes are independent from unobserved demand
shocks in the market or cost shocks experienced by
manufacturers. To check the validity of this assumption and rule out potential endogeneity concerns, we
collected two additional types of data from the same
time period. The first was data from another two categories of products sold by the focal store on the same
floor next to either the cell phone counters or the
watch counters. The second was data from the watch
category from another department store located in the
same city that did not experience a policy change during the sample period. Details are provided in the
next section.

4. Empirical Tests: Overall Changes in


Prices and Sales
In this section, we develop hypotheses regarding how
the change in channel structure will impact key managerial metrics. We then discuss our modeling
approach and present our estimation results for the

Please Cite this article in press as: Li, J., et al. What Happens When Manufacturers Perform The Retailing Functions?. Production and
Operations Management (2016), doi 10.1111/poms.12549

Li, Chan, and Lewis: Manufacturers Performing the Retailing Functions


Production and Operations Management 0(0), pp. 113, 2016 Production and Operations Management Society

two categories in our data. Finally, we discuss how


we use additional data as controls and also use a
short time window before and after the change to rule
out alternative explanations of our results.
4.1 Research Hypotheses
Jerath and Zhang (2010) offer testable hypotheses on
how switching from RMR to MMR may impact retail
prices and sales. They use an analytical model to
show that the increased manufacturer competition
drives down retail prices. Based on their results we
propose Hypothesis 1:2
HYPOTHESIS 1. Retail prices will decrease when a brand
is shifted from RMR to MMR. These price decreases will
result in increased sales.
Jerath and Zhang (2010) also consider how nonprice factors such as the in-store service level will be
different under the alternative systems. They argue
that because manufacturers make a higher profit margin under MMR, there is a greater incentive for them
to provide service to consumers. In our empirical context, other non-price factors such as counter design,
brand advertising and product assortment may also
influence demand. These increases in selling efforts in
a MMR system may lead to increased store traffic and
hence higher sales. In addition to the selling effort,
direct management of inventory by manufacturers
may also reduce stock-outs (Cachon 2003). Based on
this discussion we propose Hypothesis 2:
HYPOTHESIS 2. In addition to the effect of price decreases
on sales there will be a net increase in retail sales when a
brand is shifted from RMR to MMR.
4.2 The Effects of the Channel Structure Change
on Retail Prices
We first test the effects of the channel structure
change on the overall retail price by estimating a price
regression model. For brand i in week t, we specify
pit di Z0it q hsit tit ;

where pit is the log of the average retail price


weighted by aggregate sales of each SKU in the total
sample period of brand i in week t. The variable sit
is a binary variable that indicates whether the brand
is retailer-managed (sit = 0) or manufacturer-managed (sit = 1). The coefficient di is a brand fixed effect
used to account for the differences in quality and
production costs across brands. We use a vector of
observables, Zit, to control for new model introductions and time trends. New models are defined as
those products whose first sale is observed in the
preceding 30 days. We use two specifications to

control for time effects. The first specification


includes yearly (Year 2 to Year 4) and monthly
(February to December) indicators (Model 1) while
the second one uses the number of weeks since the
start of the sample period (Model 2) as a covariate.
A comparison of these specifications provides a test
of the robustness of our regression results. Finally it
is an error term.
Key results for the cell phone category are reported
at columns 1 and 2 of Table 3. The negative coefficients for the time variables reflect the fact that prices
of cell phones in the department store are decreasing
in general due to outside competitions. The estimated
coefficient for sit in both specifications implies that
retail prices drop by 10.7% on average after the channel structure change. Given that the average retail
price for all brands in our sample is roughly US$200,
this is a significant change as manufacturers markups
in this category may be as low as $10 under RMR.
Key results for the watch category are reported at
columns 3 and 4 of Table 3. Coefficients for the yearly
dummies or the weekly time trend are significantly
positive. The estimated coefficient for sit varies from
%0.03 to %0.04, depending on the model specification.
Since the average retail price of the watch category is
around US$1000, this represents a price decrease of
$30 to $40. Overall, the results of both categories are
consistent with Hypothesis 1 that MMR intensifies
price competitions among manufacturers.
4.3 The Effects of the Channel Structure Change
on Retail Sales
We next evaluate the effects of the channel structure
change on sales. In particular, we are interested in
sales growth that is not explained by the downward
movement of prices. We first study the cell phone category by estimating a (log) sales regression model.
For brand i in week t,
qit bi Xit0 v c1i pit c2 cpit dsit nit ;

where qit is the log of quantity sales of brand i in


week t, and the parameter bi represents the brand
Table 3 Estimation Results of Price Change due to the Channel
Structure Change
Cell phone category
Parameters
Channel
structure change
Year 2
Year 3
Year 4
Weekly
time trend

Model 1

Model 2

%0.107***

%0.107***

%0.019***
%0.126***
%0.186***
N/A

N/A
N/A
N/A
%0.001*

Watch category
Model 1
%0.043*
0.171***
0.341***
0.515***
N/A

Model 2
%0.033**
N/A
N/A
N/A
0.003***

*, **, ***significant at 0.10, 0.05, 0.01 level.

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fixed effect on sales. The channel structure switch


indicator sit is the same as in the price regression
model. We also include brand is own price, pit, and
a competitive price term, cpit. The latter is represented by the average retail price of other brands in
the same week, weighted by the aggregate sales of
each brand throughout the sample period. Xit is a
vector of observed factors that may affect retail sales
including the following: (1) time effects again we
use two specifications, yearly (Year 2 to Year 4) and
monthly (February to December) indicators, and the
number of weeks since the start of the sample period; (2) the stores feature advertising, which is a
dummy variable, equal to 1 if any product under is
brand name is featured in the stores weekly ad of
week t, and 0 otherwise; (3) the number of new
models of brand i in week t; and (4) two location
indicators. Selling counters for cell phones were
relocated twice during the sample period. The first
relocation occurred in the third year when the store
decided to renovate the floor where selling counters
were located and the second location change
occurred in the fourth year.
The parameter c2 in the equation denotes the crossprice elasticity, which for simplicity is assumed to be
the same across brands. The parameter c1i is a brandspecific own-price elasticity. The indirect effect of the
channel structure change on retail sales due to price
changes is equal to c1i for each brand multiplied by h
in Equation (1). In addition to this indirect effect, d in
Equation (2) captures the net gain of retail sales due
to the channel structure change. Finally, it is an error
term representing unobserved demand shocks.
Next we consider the watch category. The sparseness of sales in the category means we do not observe
brand sales in some weeks of data. When sales occur,
we also need to account for the discreteness of the
quantity sold in our model. To account for these data
issues, we assume that observed sales are generated
from a negative binomial distribution function. The
expected quantity sold is specified as
Eqit j Xit ; pit ; cpit ; sit '
bi Xit0 v c1i pit c2 cpit dsit nit ;

where all parameters and variables are defined in


the same way as in Equation (2), with the only difference being that there is no relocation of the watch
category in our data.
Key results of the sales regression for both of the
categories are reported in Table 4. Coefficients for the
time variables (yearly dummies or weekly time
trends) are significantly negative for the cell phone
category, reflecting the fact that the department store
is facing increased competition from discount and
specialty stores. Coefficients for the two relocation

Table 4 Estimation Results of Sales Change due to the Channel


Structure Change
Cell phone category

Watch category

Parameters

Model 1

Model 2

Model 1

Model 2

Channel
structure change
Log(Own Price)
Brand 1
Brand 2
Brand 3
Brand 4
Brand 5
Brand 6
Brand 7
Brand 8
Brand 9
Brand 10
Brand 11
Brand 12
Brand 13
Log(Cross Price)
Advertising
New Models
Relocation 1
Relocation 2
Year 2
Year 3
Year 4
Weekly
Time Trend

0.102***

0.085**

0.111***

0.171***

%0.075***
%0.095***
%0.168*
%0.246***
%0.232**
%0.263**
%0.277***
%0.477***
%0.401**
%0.631***
%0.681***
%0.545***
%0.954***
0.071**
0.206***
N/A
N/A
N/A
0.076
%0.042
0.158
N/A

%0.185***
%0.112***
%0.277*
%0.382***
%0.390***
%0.331***
%0.469***
%0.507***
%0.544***
%0.829***
%0.953***
%0.816***
%1.450***
0.087***
0.223***
N/A
N/A
N/A
N/A
N/A
N/A
%0.001

%0.564***
%1.091***
%1.458***
%0.641***
%1.693***
%1.648***
%1.240***
%1.399***
%1.560***
%2.150***
N/A
N/A
N/A
0.227*
0.148***
0.022***
0.097***
%0.191***
%0.074***
%0.143***
%0.233***
N/A

%0.520***
%1.181***
%1.413***
%0.672***
%1.671***
%1.703***
%1.264***
%1.340***
%1.576***
%2.256***
N/A
N/A
N/A
0.04
0.157***
0.029***
0.074***
%0.225***
N/A
N/A
N/A
%0.001***

*, **, ***significant at 0.10, 0.05, 0.01 level.

indicators for the cell phone category are significant,


showing the impact of moving counters on sales. For
both categories own-price coefficients are all significantly negative while cross-price coefficients are significantly positive (with the exception of the cell
phone category in Model 2). These estimates are consistent with our expectations. In the cell phone category, demand for brands 1 and 4 is significantly less
elastic to price changes than demand for other brands.
In the watch category, own-price coefficients are closely related to price and sales. The least price-elastic
brands (13) consist of premium brands with the
highest prices and largest sales revenues, while the
most price-elastic brands (1013) are low-end brands
with lower annual sales revenues.
For the cell phone category, the coefficient for the
channel structure change implies that the shift to MMR
directly caused retail sales to increase by an additional
910% above the effects due to lower prices. For the
watch category, we also find significant gains in sales
as the coefficient is 0.11 in Model 1 and 0.17 in Model
2. These results support Hypothesis 2. There are various reasons that may explain this net sales increase.
First, under RMR sales representatives were store
employees, while after the change they worked
directly for manufacturers. Sales representatives from

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manufacturers may have better product knowledge


since they specialize in selling products for a single
brand. By focusing on selling their own brands, manufacturers may benefit from greater salesperson specialization. We were also told by the store management
that the number of sales representatives increased by
about 10% following the shift to MMR and that
employees were also offered a higher commission from
manufacturers. These changes suggest that manufacturers invested more in service provision, consistent
with the findings in Jerath and Zhang (2010).
Advertising is another important factor that may
affect sales. The net sales gain might also be explained
if the store increased its feature advertising for the
category after the channel structure change. Since we
have included feature advertising in the sales regression, increased advertising should not be the primary
reason. Manufacturers might also have increased
their own advertising spending in the local market.
Given that the shift to MMR occurred in a single store,
we do not believe that this was the case. Another possibility is that other non-price factors (e.g., counter
design and selling space) inside the store were
improved. However, we do not have data to test this
explanation. Another possible reason for the sales
increase is that the shift to MMR led to stock-out
reductions. Mishra and Raghunathan (2004), for
example, show that manufacturers have an incentive
to keep a higher stock of their own brand under VMI.
In addition, Mahajan and van Ryzin (2001) show that
when firms are providing substitutable goods, there
is a bias toward overstocking caused by the competition. As a proxy for stock-outs, we checked the ratio
of the number of days with zero levels of inventory to
the total number of days when the category was
under RMR. For the cell phone category the ratio varies from 1% (brand 1) to 5.5% (brand 8), indicating
that stock-outs might have significantly lowered store
sales. There is no evidence of stock-outs in the watch
category. We do not have access to inventory data
after the channel structure was shifted to MMR hence
we are unable to make direct comparisons.
Finally, there may be changes in the product offerings after the switch. For example, manufacturers
might offer greater variety when they directly manage
their own counters. It is also possible that after the
channel structure change, manufacturers put their
newest models on the counter shelf. To evaluate these
possibilities we examined the total number of cell
phone models sold in store for the 2 months before
and after the switch but did not find significant differences in the total number of models sold in the store.
However, 7 out of 10 brands did sell more new models after the channel structure change. For the watch
category the number of SKUs of each brand is very
stable over the entire sample period.

4.4 Robustness Checks and Alternative


Explanations
The above results are consistent with our hypotheses
1 and 2. In this section, we conduct further robustness
checks of our results. In addition, we also provide further evidence to rule out some alternative explanations to our empirical results.
4.4.1. Robustness to Model Specifications. We
estimated two types of GLS price regressions as a
robustness check of our main model on prices. The
first one allows for a potential correlation of the error
terms in the price regression across brands and the
second one allows for a potential correlation of the
error terms across weeks under the AR(1) assumption. We also repeat the same procedure for the sales
regression model. All of the results are similar to what
we report in Tables 3 and 4, showing that our results
are robust to model specifications.
In addition to the actual prices paid by consumers
we also observe listed prices in the data. Listed prices
may be different from the final retail prices for two
reasons. First, occasional price promotions occur
under both RMR and MMR. Second, salespeople have
the authority to offer small discounts to certain customers. For manufacturers, occasional price promotions or offering reduced prices to specific customers
may help to avoid a full-scale price war with competitors. We ran another set of price regressions using the
log of listed prices as the dependent variable in the
regression. Again we find that most of the results are
similar to those in the preceding analysis. However,
we also find that the probability of price discounts
(i.e., final retail prices are lower than list prices) is, in
general, higher after the channel structure change. On
average, the promotion frequency in the cell phone
category increased from 36.6% to 70.7%. In the watch
category, the brands that experienced a shift to MMR
also tended to increase promotional activity (Brand 1
is an exception).
4.4.2. Demand and Cost Shocks. There are some
potential alternative explanations to our price and
sales results. One alternative explanation is that our
findings and the switch to MMR are both caused by
demand or cost shocks in the local market. Although
the management stated that this was not the reason
for switching to MMR, we consider it important to
rule out such alternative explanations from the data.
To achieve this purpose we collected data on prices
and retail sales for the watch category from another
department store located in the same city.3 This store
is independent from our focal store and targets similar customers in the market. Its annual sales revenue
is about one-fourth that of our focal retailer, but is still
ranked among the top 100 department stores in the

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we did using the data from the control store. The idea
is that if a shock occurred within the store, it would
impact all categories on the same retail floor in the
same way. The results are reported in Panel (2) and
Panel (3) of Table 5, respectively. None of the results
is significant, and three out of the four coefficients for
the sales regression are negative.4

country. In the watch category, this store has 11 major


brands, 8 of which are also available in our focal store.
The entire watch category was under MMR during
the sample period hence there was no change in the
control store. To evaluate the possibility of unobserved demand shocks we created an artificial channel structure switch dummy for the periods during
which a shift occurred in our focal store, and ran the
price and sales regressions using data from the control store. If channel structure switches were driven
by demand or cost shocks at the market level, significant changes would also be observed at the control
store during those periods.
Key results are presented in Table 5, Panel (1). In
the price regression, the coefficient for the artificial
channel structure switch is negative using yearly and
monthly dummies (1(a)) but positive using a weekly
time trend (1(b)). Neither is statistically significant. If
there were a market-level cost shock or demand shock
that caused the price drops in the watch category in
the focal department store, we would observe the
same result in the other store. The coefficients in the
sales regression under both time specifications are
also insignificant. Furthermore, while the effect of the
channel structure switch on sales is positive in our
analysis, the coefficients for the artificial dummy are
negative in the control store. These results help rule
out the explanation that the observed price and sales
changes of the watch category in the focal store are
due to cost or demand shocks in the local market.
It is also possible that there were demand or cost
shocks that affected only the focal store, and those
shocks were concurrent with the switch to MMR. As
we discussed previously, however, the store management stated that no such shocks existed. To further
rule out this explanation, we collected additional data
on other categories sold by the store. We chose the
clothing category that was sold on the same floor as
the cell phone counters, and the gold and jewelry category that was located on the same floor as the watch
counters. We then re-ran the price and sales regressions with an artificial channel structure switch
dummy for the two new categories, similar to what

4.4.3. Competitive Environment. Another potential explanation for our results is that the price and
sales changes were driven by changes in the competitive environment inside and outside the department
store over time. For example if there were more
entrant brands than exit brands in the store we might
expect a more intensive within-store competition in
the later part of our sample period. This type of effect
could also produce a negative coefficient for the channel structure change parameter in the price regression. In the data there were 62 brands in the cell
phone category before the switch, and only five small
brands (average annual market share of the largest of
these brands is 0.8%, and the total market share of the
five brands is 2.4%) left after the switch. It is unlikely
that these five small brands would have significant
impact on the intensity of competition in the category.
Furthermore a reduction in the total number of
brands should mitigate rather than increase competitive pressures. For the watch category, the total number of brands was stable before and after the switches
so again it does not explain the observed price
changes.
Competition outside the store that is not captured
by the time variables in the regressions may be
another factor. A decrease in competition might
explain why the coefficient for the channel structure
change is positive in our sales regressions. We explore
this possibility by selecting data from 1 month before
and 1 month after the changes to MMR in the cell
phone and watch categories to run the price and sales
regressions again. This practice is similar to the regression-discontinuity approach in the literature.
The logic is that while outside competition may have
changed over time, if the change was continuous and

Table 5 Main Results of Price and Sales Regressions for Control Store and Categories
(1)

Regression
Control
variables
Artificial switch
dummy

(2)

(3)

Log (Price)
Sales
Yearly and monthly
dummies

Log (Price)
Sales
Weekly time
trend

Log (Price)
Sales
Yearly and monthly
dummies

Log (Price)
Sales
Weekly time
trend

Log (Price) Sales


Yearly and monthly
dummies

Log (Price) Sales


Weekly time
trend

%0.092

%0.131

0.141

%0.156

0.012

%0.048

0.014

%0.053

0.067

0.058

0.072

0.062

Note: None of the estimates in the table is statistically significant.


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smooth, outside competition should remain stable


within the short time window before and after the
channel structure change. Results are reported in
Table 6. The effects of the channel structure change
(first two rows in the table) are similar to the price
and sales regression results in Tables 3 and 4, though
the coefficients for the watch category are insignificant because the number of observations is much
smaller in these regressions.
In summary, our empirical results are consistent
with the prediction that sales will increase due to
manufacturers increasing service provision under
MMR as suggested by Jerath and Zhang (2010). However, due to data limitations we cannot completely
rule out all of the alternative explanations including
retailer specific effects that are unobserved by the
researchers.

5. Empirical Tests: Heterogeneity in


Reponses across Brands
For analytical tractability Jerath and Zhang (2010) do
not consider heterogeneity across manufacturers. In
reality, manufacturers may have different competitive
strengths and their products may target different consumer segments. As a result of these differences, manufacturers may face different competitive pressures
and may respond differently to a shift from RMR to
MMR.
To explore this possibility, we estimated a latent
class regression model as follows. We assumed that
there exist C latent classes of brands. For brand i, the
probability that it belongs to class c is pic. The effects
Table 6 Price and Sales Regression 1 Month Before and After the
Channel Structure Change
Parameters
(1) Price regression
Channel structure change
(2) Sales regression
Channel structure change
Log(Own Price)
Brand 1
Brand 2
Brand 3
Brand 4
Brand 5
Brand 6
Brand 7
Brand 8
Brand 9
Brand 10
Brand 11
Brand 12
Brand 13
Log(Cross Price)

Cell phone category


%0.078***
0.082**
%0.739
%1.398
%1.505***
%0.875**
%2.463**
%2.553***
%1.702***
%1.654***
%3.140***
%3.264***
N/A
N/A
N/A
0.493

*, **, ***significant at 0.10, 0.05, 0.01 level.

Watch category
%0.032
0.054
%0.032
%0.177***
%0.180***
%0.294*
%0.461***
%0.358***
%0.537***
%0.576***
%0.567***
%0.624***
%1.219***
%0.833***
%2.084***
0.043

of the channel structure change on prices and sales


are class-specific. That is, we re-specify Equation (1)
as
C
X
di Z0it qc hc sit tcit ( 1 fi belongs to class cg

pit

c1

10

and Equation (2) as


qit

C
X
bi Xit0 vc cc1 pit cc2 cpit dc sit ncit
c1

( 1fi belongs to class cg;

20

where 1{} is an indicator function that is equal to 1


if the expression inside the bracket is true, and zero
otherwise. The heterogeneity in the effects of the
channel structure change across brands is captured
by the class-specific parameters hc and dc in the
above equations.
We estimated the price and sales functions simultaneously using the maximum likelihood method. The
maximum likelihood function is

N
X

log

i1

C
X
c1

(ff qit % bi %

Pci (

T
Y
t1

Xit0 vc

ft pit % di % Z0it qc % hc sit


cc1 pit

cc2 cpit

!
% d sit ;
c

in which f and ff are the density functions for the


error terms and , respectively, where we assume
t ) N0; r2ct and n ) N0; r2cn . The parameters to be
estimated include pic, qc, hc, vc, c1c, c2c, dc, r2ct and r2cn
(where c = 1, . . ., C), as well as fixed effects di and bi.
To determine the number of classes, we repeatedly
estimated the model with C = 2, 3, 4, and 5. As shown
in the first two columns in the upper panel of Table 7,
Table 7 Results of Selecting the Number of Latent Classes
The value of
information criteria
Number of
latent classes

AIC

Cell phone category


2
1387.71
3
1647.98
4
1757.43
5
1832.30
Watch category
2
5451.26
3
5250.46
4
5327.14
5
5536.53

The p-value of
statistical test

BIC

Bootstrapped parametric
likelihood ratio test

975.98
1174.21
1266.74
1324.69

0.00
0.00
1.00
1.00

5869.87
5722.13
5817.51
5982.94

0.00
0.00
0.23
1.00

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Table 8 Estimation Results of the 3-Class Model


Cell phone category
Parameters
Channel structure change on prices
Channel structure change on sales
Log(Own Price)
Log(Cross Price)
Advertising
New models
The belonging of each brand based
on the highest probability

Class 1
%0.259***
0.109***
%1.983***
1.338***
0.382***
0.097***
5, 6, 7, 8, 9, 10

Watch category

Class 2

Class 3

Class 1

Class 2

Class 3

%0.030
0.063**
%1.228***
0.713**
0.034
0.010
4

%0.048*
0.025**
%1.178***
0.237
0.213***
0.135***
1, 2, 3

%0.275***
0.216***
%1.515***
1.096***
0.215***
N/A
11, 12, 13

%0.069***
0.141***
%0.470***
0.024
0.113**
N/A
4, 5, 6, 7, 8, 9, 10

0.212***
0.118***
%0.272
0.012
0.204***
N/A
1, 2, 3

*, **, ***significant at 0.10, 0.05, 0.01 level.

the two commonly used model selection criteria,


Akaikes Information Criterion (AIC) and Bayesian
Information Criterion (BIC), suggest that two classes
are sufficient to describe the heterogeneity in the cell
phone category. The recently developed Bootstrapped
Parametric Likelihood Ratio Test (the third column),
which tests the model with C classes to a model with
C % 1 classes, however, suggests that the 3-class
model significantly captures more brand heterogeneity based on the p-value (0.00). For safetys sake we
choose the 3-class model.
The left panel (the first three columns) in Table 8
reports the key estimation results for the 3-class case
of the cell phone category. The last row shows which
brands belong to each of the three classes, based on
the estimated probability pic. For Class 1, the coefficient of the channel structure change on prices is significantly negative, and the effect on sales is
significantly positive. For Class 2, the effect on sales is
significantly positive but the effect on prices is
insignificant. The effect on sales is also positive and
significant for Class 3, but the magnitude is the smallest among the three classes. The effect on prices for
Class 3 is negative and marginally significant. Overall, the results show substantive differences between
the various classes of brands. The effect of the channel
structure change are the strongest for Class 1 brands.
Table 1 shows that brands in this class (brands 510)
have a much smaller market share than brands 14,
which belong to Classes 2 and 3. The estimated intercepts of brands 510 in the sales regression (not
reported) are also significantly smaller. Furthermore,
Table 8 shows that the demand of Class 1 brands is
more price sensitive and greatly impacted by competitors prices.5
We then applied the same latent class regression to
the watch category. As shown in the lower panel of
Table 7, AIC, BIC, and the Bootstrapped Parametric
Likelihood Ratio Test all suggest the 3-class model
best fits the data. The right panel (Columns 46) in
Table 8 reports the key estimation results. Similar to
the cell phone category, there are significant variances

across the classes. The sales increases and price


decreases are the largest for Class 1. In comparison to
the other two classes, brands in this class (brands
1113) have the smallest share in terms of sales revenue (see Table 2). Table 8 also shows that the
demand for these brands is more price sensitive and
greatly impacted by competitors prices. It is interesting that the prices of Class 3 brands (brands 13)
increase after the channel structure change. One possible reason is that these brands are very luxurious
and conspicuous products (as the average retail prices
of these three brands are significantly higher than that
of other brands); thus, the manufacturers may be concerned with the maintenance of brand equity and
therefore be reluctant to engage in price promotions
under MMR. This finding is consistent with industry
evidence (OConnell and Dodes 2009, Dodes and Passariello 2011).
The heterogeneous responses across brands are
fairly consistent between the cell phone and the watch
categories. In general, brands with higher own-price
and cross-price elasticities lower price more after the
channel structure switch. Their sales also grow more
due to increased service. To understand how these
findings can be generalized to other categories and
markets, it is important to explore analytically why
these demand factors lead to the asymmetry in manufacturers responses. Given that our research focus is
empirical, we leave this task to future research.

6. Conclusions
MMR has become a prevalent retailing system in Asia
and is growing in popularity in other parts of the
world including the United States. Under this system,
retailers delegate many decisions, including inventory management, pricing and sales staff hiring, to
manufacturers. MMR has been proposed as a potential solution for channel conflicts between retailers
and manufacturers.
We empirically study the effects of a switch from
RMR to MMR on retail prices and sales in the cell

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phone and watch categories within a leading Chinese


department store. We find that after changing to
MMR the average retail price across all brands
decreases by about 11% in the cell phone category
and by 34% in the watch category. These price
decreases lead to increased sales. Beyond the price
driven demand effect, we also find an additional 9
10% net gain in retail sales for the cell phone category
and 1117% for the watch category. These results are
consistent with the analytical results of Jerath and
Zhang (2010) that manufacturers are incentivized to
provide better in-store service.
We use data from another department store and
from other categories in the same store as controls.
We also adopt the regression-discontinuity
approach to test our findings. These additional analyses help exclude several alternative explanations. We
further use a latent class model to study how brand
heterogeneity may lead manufacturers to respond differently to the change in channel structure. For the cell
phone category, we find that while the results are consistent across most brands, there are no significant
price cuts for major and price-inelastic brands. For the
watch category, while low-tier brands cut prices,
high-tier brands increase prices after the channel
structure change.
To our knowledge this is the first study that provides direct empirical comparisons between RMR
and MMR systems. There have been many theoretical
works in marketing, operations and economics
research focusing on channel coordination issues
under various types of manufacturer-retailer contracts. We consider it important from an academic
perspective to empirically test the predictions generated from different theories. We also believe that our
findings are important for managers outside China
(e.g. in the U.S.) since the MMR systems are becoming
more prevalent in the retail industry.
There are a few notable limitations to this study.
We have not considered the impact of this new type
of retailing system on retailer competition and on
market structure. It would also be interesting to examine who benefits most from the channel structure
change, manufacturers, the retailer, or consumers?
Recent work by Li and Moul (2015) addresses those
questions with a structural modeling approach. In
addition, while we find that MMR leads to increases
in sales above and beyond what can be explained by
price changes, due to data limitations we are unable
to disentangle the various factors that cause the
changes. Further scrutiny of the role and impact of
the revenue sharing contract between manufacturer
and retailer is also warranted (Wang et al. 2004).
Finally, we find substantive asymmetric effects across
different types of brands. It is important to develop a
theoretical model to formally study what are the

important factors that lead to such asymmetric


effects.

Acknowledgments
We are very grateful to the Department Editor and the
Senior Editor for their invaluable guidance, and the two
anonymous reviewers for their helpful suggestions. We also
thank participants at 2008 Marketing Science Conference
and Marketing Scholar Forum VIII, and seminar participants at Fudan University and University of Minnesota for
their thoughtful comments on previous versions of this
article.

Notes
1

During our sample period, the store only sold cell phone
hardware. Consumers had to subscribe to wireless
services from wireless communications service providers
separately.
2
Their model assumes that retailers charge manufacturers an up-front fixed rent, which is different from the
MMR system under which retailers charge manufacturers a percentage of sales revenue. We develop an analytical model where two (symmetric) manufacturers sell
to one retailer. The retailer initiates a revenue-sharing
contract to manufacturers under the constraint that manufacturers profits are positive. We find that the equilibrium retail prices under MMR are always lower than
that under RMR. Since this model set-up is similar to
theirs, we choose not to include it in this study to save
space. Detailed results are available from the authors
upon request.
3
The store does not carry cell phones so we cannot compare for the category.
4
That said, we cannot rule out the possibility that the
demand or cost shocks are specific for the store and for
the cell phone and watch categories only.
5
To investigate whether these results are driven by revenue-sharing in contracts, we further collect information
on revenue sharing for the cell phone category. There are
variations across brands. Brands 1, 2, and 4 pay 22.5% revenues to the store. Brands 3 and 7 pay 25%, and the rest
of five smaller brands pay 26%. If the price changes were
only caused by the revenue sharing contract, brands 1, 2
and 4 would lower prices more than other brands after
the channel structure switch, since they pay less to the
store. Results from Table 8, however, show that Class 1
brands (brands 510) lower prices the most after the
switch. This suggests that revenue sharing contracts and
price changes may be simultaneously driven by brandspecific factors: Since Class 1 brands have small market
shares (see Table 1), they have lower bargaining power
when negotiating the contract with the department store.
Also, since the price sensitivity of those brands is higher
than for other brands (see Table 8), they have greater
incentive to lower prices to compete for market share
shares after the channel structure switch. Had the revenue
shares been fixed to be the same for all brands, Class 1
brands would have lowered prices even more than in the
results in Table 8.

Please Cite this article in press as: Li, J., et al. What Happens When Manufacturers Perform The Retailing Functions?. Production and
Operations Management (2016), doi 10.1111/poms.12549

Li, Chan, and Lewis: Manufacturers Performing the Retailing Functions


Production and Operations Management 0(0), pp. 113, 2016 Production and Operations Management Society

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Please Cite this article in press as: Li, J., et al. What Happens When Manufacturers Perform The Retailing Functions?. Production and
Operations Management (2016), doi 10.1111/poms.12549