Information Sharing in Procurement Contracting with Multiple Suppliers and Input Interdependencies

Abstract

This paper analyzes a procurement situation where a manufacturer decides on sharing proprietary information with suppliers of complementary components when these components are commonly used for several products. I find that the interdependencies have profound impact on the manufacturer's information sharing strategy. The manufacturer may engage in selective information sharing, making demand or cost information accessible to one supplier but concurrently withholding the same information from a second, complementary input supplier. Information sharing to the second supplier is intermediate whereas concealment is two-tailed. Selective information sharing arises because in light of component interdependencies the disclosure strategy causes two competing forces – lowering one component's costs versus increasing the other's costs.

Keywords:

• Component commonality
• Component complementarity
• Selective information sharing
• Procurement contracting

JEL Classifications:

• D21
• L22
• M41

Acknowledgments

The authors thank Anil Arya, Christian Hofmann (editor), Steve Huddart, Eva Labro, Volker Laux, Brian Mittendorf, Markus Nisch, Stefan Reichelstein, Anna Rohlfing-Bastian, Ulrich Schäfer, Ulf Schiller, Rudolf Vetschera, Franz Wirl, two anonymous referees and participants at EAA (Valencia), EAR Conference, GEABA (Hamburg), at the MAS Conference (San Juan), at the Workshop of Accounting and Economics (Tilburg), and workshop participants at the University of Graz, and the University of Vienna for helpful comments.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1 In the past decades, an increasing number of industries has evolved towards such supply chain structures. These industries range from automotive and aviation to computer, electronics and the telecommunications. Empirical evidence provides support. For example, Bernard et al. (2010) find that 39% of US companies in their sample are multi-product firms producing 87% of the total output. Most of these firms use common components and carry these components from a large number of suppliers (Frazier et al., 2009). Arkell (2005), for example, reports that Boeing purchases from more than 6,000 suppliers for its product portfolio, requiring multiple complementary components.

2 According to Lariviere and Porteus (2001), many procurement processes are governed by simple wholesale price contracts. Li and Zhang (2002) and Li and Zhang (2008) show that when an upstream supplier receives information from a downstream firm, it tries to extract more profit by adjusting its wholesale price to respond to the information. This is called the double marginalization effect of information sharing.

3 It is well-known that information-sharing decisions can be used to strategically influence competition between firms on the final product market. Accounting for such strategic effects, information sharing is driven by the mode of competition (Cournot, Bertrand), the production technology, relation of products (strategic substitutes or complements) and whether there exist spillover effects (e.g. Arya et al., 2010; Arya & Mittendorf, 2011; Arya et al., 2019; Bagnoli & Watts, 2010, 2015; Bova & Yang, 2018; Darrough, 1993; Gal-Or et al., 2008; Ha & Tong, 2008).

4 The electronics industry provides a suitable application of our setting. This industry consists of large multi-product manufacturers that buy multiple complementary components (and patents) from different suppliers with considerable market power, such as Microsoft, Intel, IBM, Toshiba. In this industry, market power can be situated almost anywhere in the supply chain, including the upstream suppliers (Dedrick et al., 2010). For example, the former Apple executive Jean-Louis Gassée mentions that Intel is able to tell its clients for electronic chips ‘which chips they'll receive, when they'll receive them, and how much they'll cost’ (Gassée, 2014). In a case study, Sislian and Satir (2000) document an electronics equipment manufacturer's concerns of sharing information with its suppliers because sharing sensitive information could place the manufacturer at risk of opportunistic exploitation.

5 Beyer et al. (2010), Stocken (2012) and Verrecchia (2001) provide excellent reviews of this literature.

6 As Chu et al. (2017), Guo et al. (2014) or Lariviere and Porteus (2001) point out, constant wholesale pricing is frequently implemented in procurement relationships. Therefore, wholesale price contracts are commonly considered in the literature (e.g. Arya et al., 2019; Chu et al., 2017; Guo et al., 2014; Ha & Tong, 2008; He & Yin, 2015; Lei et al., 2020; Shang et al., 2016; Wang et al., 2020).

7 The assumptions regarding truthful reporting, information about the knowledge of the other supplier, and confidentiality clauses significantly increase tractability of the model. We discuss the effects of weakening or dropping these assumptions as limitations in the Conclusion.

8 The prices and profits are special cases of the subsequent more general model. We abstract from presenting the detailed derivation at this point but catch up on that elswhere in Section 4.2.

9 The analysis regarding selective information sharing with Supplier 2 follows the same reasoning.

10 As noted in prior literature, the price reduction can never offset the increase in τ, i.e. $\mathrm{\partial }{w}_i^F/\mathrm{\partial }\tau >-1$, (e.g. Baldenius & Reichelstein, 2000, Theorem (i)).

11 As shown by Kopel et al. (2016), the overall effect for the multi-product manufacturer can be positive or negative, depending on the relation of quantities sold in the markets.

12 Certain parameter constellations lead to the outcome ${\hat{\tau }}_2>{\widehat{\stackrel{ˆ}{\tau }}}_2$. In this case the manufacturer primarily focuses on the complementarity-advantage and prefers information sharing with Supplier 2 for all $\tau <{\hat{\tau }}_2$ to induce Supplier 1 reducing component price $w_1$ but wants to withhold its information for $\tau >{\hat{\tau }}_2$ to prevent Supplier 1 increasing component price $w_1$. Withholding information of the rather low realizations $\tau <{\widehat{\stackrel{ˆ}{\tau }}}_2$ leaves Supplier 2 expecting worse news than they really are. As a consequence, the supplier underprices its component. The increasingly important direct advantage tied to not informing Supplier 2 means that the lower-tail of τ values that would otherwise have been disclosed is now withheld although this allows the informed Supplier 1 increasing component price $w_1$ – the manufacturer's direct benefit from a lower $w_2$ more than offsets the suffering from higher $w_1$.