Demand Signalling and Screening in Channels of Distribution

TLDR

The study investigates how manufacturers and retailers manage asymmetric information during new product launches. Manufacturers signal high demand through pre‑launch advertising and higher wholesale prices, while retailers screen demand by offering slotting allowances that only confident manufacturers accept. Manufacturers prefer signaling via advertising and pricing, whereas retailers prefer screening via slotting; when advertising is ineffective, slotting yields higher channel profits and social welfare.

Abstract

This paper examines two ways channel members at the manufacturing and retail ends deal with asymmetric information in the context of new product introduction. A manufacturer who has private information that demand for a new product will be high can differentiate itself from a manufacturer less confident of demand by undertaking high levels of pre-launch advertising and offering a high wholesale price. A retailer, for its part, can screen potentially high demand from potentially low demand products by stipulating a take-it-or-leave-it slotting allowance, the assumption being that the offer will be accepted only by manufacturers confident of sufficient demand to recover the high initial cost of slotting allowances. It is shown that manufacturers prefer to signal demand through advance advertising and wholesale price, retailers to screen demand through slotting allowances. It is shown that, unless advance advertising is sufficiently effective, slotting allowances yield higher total channel profits and higher social welfare.