|
Article Excerpt
1. Introduction
Firms typically know more about their product quality than prospective consumers. The proliferation of new products, in many markets ranging from automobiles, computers, electronics, to fashion, has increasingly led to shorter product lifespan and consumer uncertainty about quality. In these markets, quality disclosure has been recognized as an important information revelation means to address the information asymmetry problem (e.g., Jovanovic 1982, Guo and Zhao 2009). Nevertheless, the manner in which quality information is disclosed to consumers varies significantly. Some manufacturers employ product labels, traditional media (e.g., newspapers, television), or expert certifications (e.g., Consumer Reports, ISO 9000) to disclose product information directly to consumers. For example, computer processor producers such as Intel and AMD normally invest in national advertisements to inform consumers of the quality of their newly introduced products. In other markets such as cosmetics, fashion, medicine, and real estate, the dissemination of quality information to consumers is typically through downstream partners using, for example, free samples and returns, sales assistance, in-store media, etc. (1) Moreover, the ubiquity of the Internet has resulted in significant enhancement in the scope and credibility of seller information disclosure. Many retailers (e.g., Amazon) have set up online forums where consumers can post and browse through each other's product usage experiences, representing a credible mechanism for sellers to provide truthful product information (Chen and Xie 2008). These quality disclosure arrangements can be classified into two formats. In the first--the direct disclosure format--only the upstream firm is involved in the disclosure process. In the second--the retail disclosure format--the downstream firm retains control over information revelation although the upstream firm can influence the retailer's disclosure behaviors (e.g., through wholesale price cuts, trade promotions, or advertising allowances).
In this paper, I seek to provide insights into two issues regarding quality disclosure in a distribution channel. First, I am interested in the impacts of the direct versus the retail disclosure format on the revelation of quality information. Would more or less information be voluntarily revealed to consumers when it is the upstream (versus the downstream) firm that controls the disclosure decision? Answering this question can shed light on firms' optimal quality disclosure strategies under different disclosure formats. Second, I investigate the payoff implications of the alternative disclosure formats. Which disclosure format would lead to higher equilibrium ex ante payoff and arise as the upstream firm's choice? Should the upstream firm seize complete control over the disclosure decision or cede this control to the downstream partner? Should a manufacturer establish quality disclosure capabilities internally at the upstream level, or at the downstream level through the adoption of channel partners with this capability? The disclosure format choice is a critical decision because the development of quality disclosure capabilities typically involves substantial upfront investments, whereas the need for disclosure may arise frequently with the proliferation of new products. For example, to implement the direct disclosure format, a manufacturer may have to invest in the setup and maintenance of an advertising/communications department and in employee management (e.g., recruiting, training, and retention). The establishment of online forums to provide truthful product information through consumer-posted reviews also represents a significant strategic move (Chen and Xie 2008). Similarly, the use of sales assistance or in-store media to communicate product information entails substantial investment and commitment.
To address these questions, T consider a three-stage setup of discretionary and truthful quality disclosure in a channel setting with bilateral monopolies. Consumers are heterogeneous in their valuation of quality and the quality is initially unknown. The direct versus the retail disclosure format is chosen and committed to in the first stage of the game. The firms can become privately informed of the quality and voluntarily disclose it at a cost to the consumers. They make disclosure and pricing decisions sequentially in the second and the third stage, respectively. The upstream firm can make a take-it-or-leave-it wholesale price offer to the downstream firm who then decides on the retail price.
In the basic model, the upstream firm can select either but not both of the disclosure formats. This represents a stark comparison to highlight the basic difference between the disclosure formats, which is the locus of the disclosure decision right. It also captures situations when it is too costly to develop the disclosure capability for both firms. It is shown that, even though the manufacturer's and the retailer's incentives for disclosure may not agree with each other under the retail disclosure format, more information is revealed than under the direct disclosure format. This can be attributed to the endogenous impact of the wholesale price on the retailer's disclosure, which essentially leads to an equilibrium partial shift of the cost of disclosure from the upstream to the downstream firm. Therefore, both firms have a lower effective disclosure cost than that faced by the upstream firm under the direct disclosure format, resulting in more equilibrium information revelation.
The upstream firm obtains a lower (higher) equilibrium ex ante profit under the direct disclosure format when the cost of disclosure is relatively low (high). This result identifies the conditions under which the upstream firm should favor a particular disclosure format. However, it may appear at odds with the intuition that the benefit of transferring the disclosure cost to the downstream firm under the retail disclosure format is more significant as information revelation becomes more costly. This result arises because of the information withholding effect whereby the firms can credibly commit not to reveal relatively lower quality levels (and thus not to incur the disclosure cost) as disclosure becomes more costly. This information withholding effect is stronger for the direct disclosure format under which less information is revealed in equilibrium. This explains why the upstream firm can be better off under the direct disclosure format, when the per-disclosure cost becomes sufficiently high.
I extend the basic model to an alternative timing in which the disclosure format choice can be ex post made after the quality is learned. (2) This could represent scenarios when quality is more difficult to modify in the short run than the disclosure format choice. It is shown that direct disclosure is the ex post dominated option for the manufacturer at any quality level. Intuitively, all else being equal, it is beneficial for the manufacturer to shift the cost of disclosure to the retailer. This result further reinforces the above discussion on the mechanism underlying the manufacturer's ex ante preference for direct disclosure: By committing not to transfer the disclosure cost to the retailer, the manufacturer can credibly withhold relatively lower quality levels and thus reduce the need to incur the disclosure cost. Moreover, this endogenously justifies the implicit assumption in the basic model that the disclosure formats are ex ante prefect substitutes. That is, even without setup cost considerations, there is zero incremental gain from developing disclosure capabilities by both firms.
I further investigate the robustness of the results in an extended setup in which a firm's disclosure efforts cannot communicate the quality to all consumers. I characterize a separating perfect Bayesian equilibrium in which the retail price serves as a signal of quality to the uninformed consumers. Conditional on the chosen disclosure format(s), the firms' equilibrium disclosure strategies remain unchanged even when disclosure is imperfect. This is because, at the disclosure threshold, the quality can be (naturally) signaled without retail price distortion, leading to the same marginal incentive for information revelation as in the basic model. Nevertheless, the informativeness of quality disclosure may influence the choice of disclosure format. The manufacturer's equilibrium payoff under the direct disclosure format increases with more informed consumers, although it remains unchanged under the retail disclosure format. Moreover, in contrast to the case of perfect disclosure, these two disclosure formats may complement each other in increasing the total number of informed consumers. That is, it may be beneficial for the manufacturer to adopt both disclosure formats from an ex post perspective (and thus from an ex ante perspective as well).
There is a large literature on voluntary provision of verifiable information, including Grossman and Hart (1980), Grossman (1981), Milgrom (1981), and Okuno-Fujiwara et al. (1990). It is established that any private information will be voluntarily unraveled as long as disclosure and verification are costless. Other studies examine factors that may lead to partial disclosure, e.g., disclosure costs (Viscusi 1978, Jovanovic 1982), information acquisition costs (Matthews and Postlewaite 1985, Farrell 1986, Shavell 1994), limited consumer understanding (Fishman and Hagerty 2003), and competition (Board 2009). Lizzeri (1999) investigates certification informediaries' optimal strategies. Relatedly, Guo and Zhao (2009) examine the effects of disclosure cost and disclosure timing on duopoly firms' equilibrium information revelation strategies and payoffs.
Chen and Xie (2005) examine when and how competing firms should adapt their marketing mix decisions (i.e., pricing and advertising) when preference fit information is provided to consumers by third-party reviews. Chen and Xie (2008) investigate the interaction between seller-supplied and consumer review information, which generates asymmetric uncertainty on product valuation between consumers and a monopoly firm. In a monopoly setting, Bhardwaj et al. (2008) address optimal--seller- versus buyer-initiated--sales presentation formats as a signaling device. In contrast to these studies, this paper investigates optimal quality disclosure strategies in a channel setting. Moreover, the equilibrium format of information transmission--either directly to consumers or indirectly through the downstream firm--is examined in the current paper.
The rest of this paper is organized as follows. Section 2 lays out the model setup. The analysis and results for the basic model are presented in [section]3. Model extensions on ex post disclosure format choice and imperfect disclosure are examined in [section]4. Section 5 discusses managerial implications, identifies potential directions for future research, and concludes the paper.
2. Model
Consider a distribution channel with an upstream firm that produces a good (or service) and a downstream firm that distributes the product to end consumers. The product cannot be sold directly to the end consumers but has to be distributed through the downstream firm. The upstream firm will be referred to as the manufacturer (M) and the downstream firm as the retailer (R). The firms'...
|
