The Downside of Reorder Flexibility under Price Competition

The supply chain literature shows that reorder flexibility increases profits under competition, assuming fixed prices or quantity competition. We show that price competition, arguably a more appropriate price formation model in the presence of reorder flexibility, may yield opposite results. We consider a three-stage model of duopoly firms that sell differentiated products with stochastic demand. Firms make reorder-flexibility decisions and then place initial orders, before observing demand. After observing demand, firms set prices and, if they have the option, may reorder at a higher cost. We show that the expected profit functions are not unimodal and provide extensive equilibrium results. These appear to be the first for stochastic finite-horizon price-inventory competition with more than one order opportunity. We show: (i) Unilateral reorder flexibility is not an equilibrium; (ii) Reorder flexibility may increase initial orders; (iii) Reorder flexibility hurts profits except if it reduces initial orders and in addition, demand variability is moderate, reordering is sufficiently inexpensive, and products are sufficiently differentiated; and (iv) Firms can avoid the downside of reorder flexibility only in some cases where it hurts profits. In others, firms are trapped in a prisoner's dilemma, whereby reorder flexibility is the dominant strategy even though it hurts their profits.