A supplier–buyer bargaining model with asymmetric information and partial vertical integration

Most of the supply chain coordination models assume either independent firms engaging in a supply chain relationship or a vertically integrated supply chain structure with a common ownership. At the same time, management and organisation studies literature points to the existence of governance forms which involve shared ownership between the business partners — in particular, such forms where one supply chain member owns an equity share in the other. These governance forms can be described by the term partial vertical integration; to our best knowledge, they received little attention from the supply chain research. Literature suggests that a partial vertical integration may help the firms to ease contracting problems within a supply chain — in particular, by aligning firms’ incentives, and thus improve the total surplus. We address this proposition in the present work by studying a stylized model of a partially integrated supply chain in which the buyer holds an equity stake in the supplier. Assuming information asymmetry and a principal–agent form of relationship, we investigate optimal bar- gaining between the parties within the classical joint economic lot size framework. Our main observation is that, in certain situations, a minority equity stake can indeed be sufficient for removing the inefficiencies caused by information asymmetry and thus achieving coordination, thereby rendering the full vertical integration unnecessary. We, however, find that supply-chain performance does not need to be monotonic in the degree of partial vertical integration, and, counter-intuitively, may even decrease with a tighter integration.