Price and lead time differentiation, capacity strategy and market competition

Abstract

We study a duopoly market in which customers are heterogeneous, and can be segmented as price or time sensitive. Each firm tailors (differentiates) its products/services for the two customer classes solely based on guaranteed lead time and the corresponding price. Our objective is to understand how competition affects price and lead time differentiation of the firms in the presence of different operations strategy (shared versus dedicated capacity), product substitution and asymmetry between the competing firms. Our results suggest that when firms use dedicated resources to serve the two market segments, pure price competition always tends to decrease individual prices as well as price differentiation, irrespective of the market behaviour. Further, the effect of competition is more pronounced when customers are allowed to self-select, thereby introducing substitutability between the two product options. On the other hand, when firms compete in time, in addition to price, the effect of competition on product differentiation depends crucially on the behaviour of the market. Our results further suggest that the firm with a larger market base should always maintain a larger price and lead time differentiation between the two market segments. Similarly, the firm with a capacity cost advantage should also maintain a larger lead time differentiation.

Keywords:

• operations strategy
• competition
• price
• lead time
• product differentiation

Notes

No potential conflict of interest was reported by the authors.

Supplemental material containing Appendices A to H is available online http://dx.doi.org/10.1080/00207543.2016.1145816.

1 may be different for different customer classes if they are served by different service capacities. Using the same marginal capacity cost for the two customer classes, however, allows a meaningful comparison between the dedicated and the shared capacity settings.

2 Although we make this assumption mainly for the tractability of the model, this is still a reasonably realistic representation of certain business settings. For example, in most of the online retail web hosting services, any updating of content, if not done in express fashion, must be done within one day (Boyaci and Ray 2003).