Lead Time, Uncertainty, and Channel Decision-Making

Production lead time forces companies to make production decisions before the realization of demand. These decisions thereafter constrain the firms ’ reactions to changes in demand. Channel members ’ decisions depend on the initial production decisions made by manufacturers and on stocking decisions by retailers. In this study, we analyzed how production lead time affects decisions in a channel of distribution facing uncertain demand. Our demand formulation is derived from micro-modeling of consumer utility functions and captures demand uncertainty regarding two parameters, market size and price sensitivity. We considered which channel member, the retailer or the manufacturer, should keep ownership of the units in the channel and how lead time affects prices in the channel. We find that, in most cases, the channel, the retailer, and the manufacturer all benefit when the manufacturer maintains ownership over the units in the channel. However, when there is uncertainty about market size and the difference between the possible demand states is large, the channel and the retailer are better off if the retailer retains ownership of the units but the manufacturer will still prefer to maintain ownership. Thus, there is potential for channel conflict erupting under these conditions. In addition, we find that the pass-through rate varies with the type of demand uncertainty. The pass-through is greater than 100 % when there is price-sensitivity uncertainty and less than 100 % when there is market-size uncertainty