Information and Inventory Recourse for a Two-Market, Price-Setting Retailer

We analyze the problem of determining inventory and pricing decisions in a two-period retail setting when an opportunity to refine information about uncertain demand is available. The model extends the newsvendor problem with pricing by allowing for multiple suppliers, the pooling of procurement resources, and more general informational dynamics. One contribution is the solution procedure: we show that all decisions (up to seven in ali, including recourse decisions) can be determined uniquely as a function of a surrogate first-period decision called the stocking factor. Hence, the two-period decision problem with recourse reduces to a search for one .decision variable. A second contribution is the policy implications: we find that the cost oflearning is (I) a consequence of censored information because, on the margin, learning is free if full information is guaranteed; (2) measured in the form of an increased stocking factor; and (3) shared with the consumer in. the form of a higher selling price when demand uncertainty is additive. A third contribution is the application of the results to three motivating examples: A market research problem in which a product is introduced in a test market prior to a widespread launch; a global newsvendor problem in which a seasonal product is sold in two different countries with non-overlapping selling seasons; and a minimum-quantity commitment problem in which procurement resources for multiple purchases may be pooled. I n O c t o b e r 1 9 9 9 , T h e N e w Y o r k T i m e s r e p o r t e d t h a t C o c a C o l a C o . w a s c o n d u c t i n g a f i e l d t e s t t o a d j u s t p r i c e s d y n a m i c a l l y b a s e d o n a n t i c i p a t e d d e m a n d p a t t e r n s a n d s t o c k a v a i l a b i l i t y ( H a y s , 1 9 9 9 ) . T h e n , i n M a y 2 0 0 0 , C o c a C o l a C o . i s s u e d a p r e s s r e l e a s e a n n o u n c i n g t h e i r i n t e n t i o n t o i n v e s t $ 1 0 0 m i l l i o n t o l i n k m o r e t h a n a h a l f m i l l i o n v e n d i n g m a c h i n e s w o r l d w i d e t h r o u g h i n t e l l i g e n t v e n d i n g t e c h n o l o g y . A c c o r d i n g t o t h e p r e s s r e l e a s e , " I n t e l l i g e n t v e n d i n g i s e x p e c t e d t o s u b s t a n t i a l l y i m p r o v e i n v e n t o r y m a n a g e m e n t , a n d d e l i v e r s u p e r b s e r v i c e t o c u s t o m e r s a n d a q u a l i t y p u r c h a s e e x p e r i e n c e t o c o n s u m e r s . " I n t i m e , C o c a C o l a C o . e x p e c t s t o p r o v i d e c a s h l e s s v e n d i n g , c o u p o n s , a n d I n t e r n e t b r o w s i n g . C o c a C o l a ' s i n i t i a t i v e s i n t o i n t e l l i g e n t v e n d i n g u n d e r s c o r e t h e o b s e r v a t i o n t h a t i n f o r m a t i o n a b o u t o n e r e t a i l m a r k e t c a n i m p r o v e o p e r a t i n g e f f i c a c y i n r e l a t e d m a r k e t s . A n a t u r a l c o n s e q u e n c e o f t h i s d e p e n d e n c y i s t h a t a g o a l i n t h e f i r s t m a r k e t i s t o i n v e s t i n l e a r n i n g b y c o n t r o l l i n g i n v e n t o r y a n d p r i c i n g d e c i s i o n s , e v e n i f s u c h a g o a l c o m e s a t t h e e x p e n s e o f n o t m a x i m i z i n g l o c a l p r o f i t s . T h e i n t u i t i o n i s t h a t l e a r n i n g c a n l e a d t o i m p r o v e m e n t s i n f u t u r e m a r k e t s t h a t u l t i m a t e l y p r o d u c e h i g h e r s y s t e m w i d e p r o f i t s . T h e f o l l o w i n g t h r e e i l l u s t r a t i o n s f u r t h e r h i g h l i g h t t h e n a t u r a l r o l e t h a t i n f o r m a t i o n g a t h e r e d i n o n e m a r k e t c a n p l a y t o e n h a n c e d e c i s i o n m a k i n g i n a r e l a t e d m a r k e t s e p a r a t e d i n t i m e , i n s p a c e , o r i n b o t h . T h e f i r s t e x a m p l e i s r e m i n i s c e n t o f t h e r e c e n t m a r k e t t e s t b y F r i t o L a y , I n c . o f W O W ! TM , i t s l i n e o f s n a c k s m a d e w i t h i t s f a t f r e e c o o k i n g o i l , O l e a n , b e f o r e a n a t i o n a l l a u n c h ( F r i t o L a y , I n c . , 1 9 9 7 ) . I t a l s o i s s i m i l a r t o m a r k e t t e s t s c o n d u c t e d r e g u l a r l y b y r e t a i l e r s ( L i l i e n e t a l . , 1 9 9 2 ) . T h e s e c o n d e x a m p l e i s a g e n e r a l i z a t i o n o f a r e c e n t t w o p e r i o d m o d e l b y K o u v e l i s a n d G u t i e r r e z ( 1 9 9 7 ) . A n d t h e t h i r d e x a m p l e i s a n e x t e n s i o n o f a m u l t i p e r i o d d e c i s i o n p r o b l e m d u e t o B a s s o k a n d A n u p i n d i ( 1 9 9 7 ) .