Retailer- vs. Vendor-Managed Inventory and Brand Competition

Vendor-managed inventory (VMI) is emerging as a significant development in the recent trend towards collaboration and information sharing in supply chain management. Transfer of inventory monitoring and other overhead costs to manufacturers and continuous replenishment of retailer inventory are commonly cited as potential benefits that VMI offers to retailers. We provide a new explanation in this paper for why retailers might be interested in VMI. We show that VMI intensifies the competition between manufacturers of competing brands and that the increased competition benefits a retailer that stocks these brands. Competition arises because of brand substitution; that is, some consumers may switch to another brand if their "preferred" brand is out of stock. The manufacturer whose brand is out of stock thus risks losing sales from those consumers who buy the competing brand. Consequently, each manufacturer has an incentive to keep a higher stock of its own brand, not only to satisfy the demand from its customers, but also the spillover demand that arises if a competing brand goes out of stock. When the retailer makes the stocking-level decisions, the competition is mitigated by the pooling of demands at the retailer. VMI restores the competition between the manufacturers and benefits the retailer.