Target pricing: Demand-side versus supply-side approaches

The practice of target pricing has been a key factor in the success of Japanese manufacturers. In the more commonly known demand-side approach, the target price for the supplier equals the manufacturer's market price less a percent margin for the manufacturer but no cost-improvement expenses are shared. In the supply-side approach, cost-improvement expenses are shared and the target price equals the supplier's cost plus a percent margin for the supplier. Using a general oligopoly and Cournot duopoly models, we characterize the equilibrium and optimal policy for each approach under various conditions. We find that sharing cost-reduction expenses allows the manufacturer using the supply-side approach to attain competitive advantage in the form of increased market share and higher profit, particularly in industrial conditions where margins are thin and price sensitivities are high. (C) 2011 Published by Elsevier B.V.