Wholesale price rebate vs. capacity expansion: The optimal strategy for seasonal products in a supply chain

We consider a supply chain in which one manufacturer sells a seasonal product to the end market through a retailer. Faced with uncertain market demand and limited capacity, the manufacturer can maximize its profits by adopting one of two strategies, namely, wholesale price rebate or capacity expansion. In the former, the manufacturer provides the retailer with a discount for accepting early delivery in an earlier period. In the latter, the production capacity of the manufacturer in the second period can be raised so that production is delayed until in the period close to the selling season to avoid holding costs. Our research shows that the best strategy for the manufacturer is determined by three driving forces: the unit cost of holding inventory for the manufacturer, the unit cost of holding inventory for the retailer, and the unit cost of capacity expansion. When the single period capacity is low, adopting the capacity expansion strategy dominates as both parties can improve their profits compared to the wholesale price rebate strategy. When the single period capacity is high, on the other hand, the equilibrium outcome is the wholesale price rebate strategy.