Discount pricing decisions in distribution channels with price-sensitive demand

In this paper, we evaluate the effectiveness of quantity discounts and volume discounts as coordination mechanisms in distribution channels with demand that is price-sensitive. We consider a single-vendor, single-retailer, distribution channel. Demand for the product arises only at the retailer. The demand faced by the retailer is assumed to be deterministic, but price elastic. The retailer in turn buys the product from the vendor. The vendor and the retailer act independently and rationally, each maximizing their own respective profit. The equilibrium point that specifies the vendor's and buyer's inventory and pricing policy is determined by the solution to a Stackelberg game. We consider the cases when quantity discount and volume discount respectively are offered. We develop methods to determine the optimal discount policy for these cases. We then consider the case where both volume and quantity discounts are offered simultaneously, and develop a method to determine the optimal simultaneous discount offer. The relative performance of the alternative discount schemes is then evaluated through a numerical study. The results of the study demonstrate that the effectiveness of volume discount as a coordination mechanism is higher when the sensitivity of demand to price changes is higher. The effectiveness of quantity discount, on the other hand, is higher with lower price sensitivity of demand. Finally, the results also demonstrate that perfect coordination is achieved when volume and quantity discounts are offered simultaneously. (C) 2002 Elsevier Science B.V. All rights reserved.