Ann Oper Res (2018) 260:481–500

https://doi.org/10.1007/s10479-015-1996-0

Optimal Pricing of competing retailers under uncertain

demand-a two layer supply chain model

Arpita Roy1 · Shib Sankar Sana2 ·

Kripasindhu Chaudhuri3

Published online: 9 September 2015

© Springer Science+Business Media New York 2015

Abstract The paper studies a two-echelon supply chain comprising of one manufacturer
and two competing retailers with sales price dependent demand and random arrival of the
customers. The manufacturer acts as the supplier who specifies wholesale price for the retail-
ers and the retailers compete with each other announcing different sales prices. We analyse
a single-period newsvendor type model to determine the optimal order quantity, considering
the competing retailers’ strategies.The unsold items at the retailers are buyback to the man-
ufacturer at less price than the sales prices.On the other hand, the retailers face shortages as
the demand is uncertain in nature. The profit functions of manufacturer and two retailers are
analyzed and compared following Stakelberg, Bertrand, Cournot–Bertrand and integrated
approaches. Moreover, distribution-free model is analyzed for integrated profit of the chain.
A numerical example is given to illustrate the theoretical results developed in each case.
Computational results show that it is always beneficial in integrated system for the members
of the chain.

Keywords Pricing · Newsvendor · Uncertain demand · Supply chain

1 Introduction

The profit of a supply chain mainly depends on the market demand. And, the market demand
depends on certain vital factors those are retail price of the product, availability of the product,
and of course quality of the product and many more. In practice, the market demand cannot
be anticipated exactly until it arrives to the retailer. As a result, demand uncertainty plays a
vital role at decision of optimal strategies. The uncertainty of demand eventually has turned

B Shib Sankar Sana

shib_sankar@yahoo.com
1 Department of Mathematics, Heritage Institute of Technology, Kolkata, West Bengal 700107, India
2 Department of Mathematics, Bhangar Mahavidyalaya, Bhangar, South 24 Parganas 743502, India
3 Department of Mathematics, Jadavpur University, Kolkata, West Bengal 700032, India

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out to be a very important topic of operations research, mainly in the area of Supply Chain
Management (SCM). Concrete examples of these practices flourish in many consumer com-
modities sectors, such as food, apparel, hardware, furniture and the like. Mantrala and Raman
(1999) studied non-cooperative (i.e. leader-follower) relationship between manufacturer(s)
and retailer(s), in which manufacturer was the leader and retailer was the follower.Our main
area of concentration in this paper is the newsboy problem.In Newsboy problem, the main
objective is to determine optimal lot size so that the expected cost/profit function is opti-
mized, balancing between overstocking and understocking of the products. The interest of
research in the newsboy problem area has rapidly increased in the last decades.Many other
approaches have been included in the classical newsboy problem in day to day. Khouja (1999)
classified the newsboy problem literature into eleven categories. Ozler et al. (2009) proposed
the multi-product newsboy problem under a Value at Risk (VaR) constraint. A mathematical
programming approach was used to find the solution. Arcelus et al. (2006) modelled the
retailer’s response to temporary manufacturer’s trade deals characterized by a time interval
of random length and uncertain duration through the establishment of a reordering point,
a trigger mechanism for new special orders. Artalejo et al. (2006) developed continuous
review (s, S) inventory model for single item based on a bidimensional Markov process
where arriving demands face the system out of stock, leave the service area and repeat their
request after some random time. Kalpakam and Shanthi (2006) investigated a lost sales (s, S)
type perishable inventory system with varying ordering quantity under renewal demands. He
et al. (2009) analyzed the issues of channel coordination between two members (one sup-
plier and one retailer) with stochastic demand that was dependent on both retailer price and
sales effort. They formulated expected sales and expected left over inventory and analyzed
those by exploring various types of contracts such as joint return policy with revenue sharing
contract, return policy with sales rebate and penalty (SRP) contract, and revenue sharing
with SRP. Wang (2010) studied a game theoretic approach including multiple newsvendors
with loss aversion preferences who are competing for inventory from a risk-neutral sup-
plier. In newsvendor modelling, the noteworthy works of Lau and Lau (1988), Silver et al.
(1998), Petruzzi and Dada (1999), Wu et al. (2007), Taleizadeh et al. (2012), Sana (2011,
2012), Zhang (2010); Xiao et al. (2010); Berg (2013) and Fernandez et al. (2013) should be
mentioned, among others.
We generally have a conception that the classical newsboy problem assumes that demand
follows a specific distribution with the known parameters. However, in recent times sev-
eral researchers have analysed the distribution-free newsboy problem. In distribution-free
newsboy problem, only the first two moments of demand, namely mean and variance,are
assumed to be known or to be calculated from previous data. At the very beginning, the
distribution-free newsboy problem was addressed by Scarf (1958) who had derived a closed-
form expression for the optimal ordering rule that maximized the expected profit against the
worst possible distribution of the demand with the mean μ and the variance σ . Ouyang and
Chuang (1999) developed an inventory model considering quantity discount and partial back-
ordering in which backordering rate was a random variable. Mostard (2005) observed that
the distribution-free ordering rule performed well when the coefficient of variation was less
than 0.5. Further, Yue et al. (2006) provided the definition of expected value of distribution
information (EVDI), assuming the difference in cost functions between a distribution-free
decision and the optimal decision under the true demand distribution.This concept of EDVI
has very important role in measuring the robustness of the distribution-free decision.The
maximum EVDI can be used as the parameter of aforesaid measurement, in practice.
Of late significant amount of research has been done in the area of supply chain coordi-
nation. Most of which has been focused on a particular Stackelberg structure. In our paper,

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we consider a structure as follows: a manufacturer acts as a Stackelberg leader and two com-
peting retailers are Stackelberg followers. This typical gaming structure is referred to as the
manufacturer-Stakelberg process. In general, it has been assumed that the demand in a retail
market varies with the retail price. As the demand is uncertain, we assume that demand func-
tion is not known to both the manufacturer and the retailers. The manufacturer sells a product
at a wholesale price to the retailers maximizing his/her profit based on the retailers’ optimal
reaction functions. The retailers then sell the product to the end customers at the optimal sale
price that maximizes their profits. Parlar and Wang (1994) added all-unit quantity discount
scheme into the two-echelon system. Weng (1995) further extended Parlar and Wang’s (1994)
work to cover the two-echelon system with a single supplier and a group of homogeneous
buyers. At this juncture, it is worth mentioning that another gaming structure just flipped to
the manufacturer-Stekelberg process named as retailer-Stekelberg process is very vital in the
two-echelon system.This structure is as follows: the retailer acts as the Stackelberg leader
and the manufacturer is the Stackelberg follower. Although this process is encountered less
frequently in comparison to the earlier one in the literature,still there is a practical motivation
to study this . Choi (1991) solved a retailer-Stakelberg system with two manufacturers and a
linear demand curve. Ertek and Griffin (2002) developed a two-echelon supply chain model,
considering both the manufacturer-Stackelberg process and the retailer-Stackelberg process.
In their model, a pricing scheme has been considered for the buyer that involves both a multi-
plier and a constant mark up in the retailer-Stackelberg process. Messinger and Narasimhan
(1995) provided an aspect as how the Stackelberg power leader had shifted to the retailer in
the grocery channel. Lau and Lau (2005) also considered the retailer-Stakelberg system with
a single manufacturer and a single retailer.
In a competing supply chain environment, the retailers are vibrant to survive in the com-
petition, as retail price is the prime deciding factor of the competition. Apart from price,
owing to current dynamics and a competitive environment, retailers must compete with more
complicated strategies than simply lowering their retail prices. They must also consider few
non-price factors such as after sales service,post-sale customer support,improved product
quality, product advertising, on-time product delivery etc. Iyer (1998) studied multi-echelon
coordination under price and non-price competitions. Kim and Staelin (1999) examined a
single period profit maximizing game with two manufacturers and two retailers. They found
that if consumers become more sensitive to differences in merchandizing activity between
brands within a store, the retailers’ profits increase and the manufacturers’ profits decrease.
Tsay and Agrawal (2000) considered a distribution system in which a manufacturer supplies
a common product to two independent retailers when demand is dependent on both the retail
prices. Ishii (2000) established a Cournot duopoly competition model where risk-averse firms
choose optimal retailer (R) and distributor (D) levels under demand uncertainty. He studied
the R and D quantity competition between two firms. He assumed that two firms play R and
D competition in the first stage and quantity competition in the second stage. Soni and Shah
(2011) studied an economic production quantity (EPQ) model for deterministic, stochastic
or fuzzy demand to minimize the cost function. Cardenas-Barron et al. (2012) proposed a
heuristic algorithm to find out an optimal solution of the vendor management inventory sys-
tem with multi-product and multi-constraint based on EOQ with backorders considering two
classical backorders costs: linear and fixed. In this direction, some notable works (Taleizadeh
et al. 2015a, b; Cardenas-Barron et al. 2011, 2014; Teng et al. 2013; Cardenas-Barron and
Sana 2014; Cardenas-Barron and Trevino-Garza 2014) are worth mentioning, among others.
In our model, we develop a two-layer supply chain consisting of one manufacturer and
two competitive retailers. The demand of the end customers is uncertain as the arrival of the
customers is not certain, in practice. Moreover, the selling prices attract/distract the arrived

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customers. Consequently, the demand of the products at the retailers is dependent on both
sales price and random arrival of the customers as well. Therefore, there is a competition
between two retailers to announce sales prices of their products. As the demand is uncertain,
the retailers may face overstock or understock of the products. Due to overstocking, the
unsold items are sent back to the manufacturer at less price than the wholesale price of the
manufacturer whereas the retailers have to bear penalty cost for understocking. Therefore,
the profits of the manufacturer and two retailers are formulated and optimized by following
Stakelberg, Bertrand, Cournat–Bertrand and integrated approaches. The comparison among
the above approaches is made and this study suggests that integrated system provides best
profit than the others. Finally, the surplus profit in integrated system is shared according to
their individual profits in decentralized system.
The rest of the paper is organized as follows: Sect. 2 explains the fundamental notations
and assumptions, Sect. 3 provides mathematical formulations and analysis of the model,
In Sect. 4, we have discussed some numerical examples. Sect. 5 draws conclusion on the
findings of the paper.

2 Fundamental assumptions and notation

The following assumptions are made to develop the model:

2.1 Assumption

(i) The model is developed for a single item.

(ii) The model associated with two-echelon supply chain comprising one manufacturer
and two competing retailers.
(iii) The Demand rate of the members of the chain is assumed to be uncertain and price
sensitive.
(iv) The chain is with buyback policy.
(v) The lead time is negligible.
(vi) Shortages at the retailers are permitted.
(vii) Replenishment rate is instantaneously infinite but it’s size is finite.
(viii) The model considers a profit sharing contract in collaborating system.

2.2 Notation

Q 1 : Retailer 1’s Order Quantity.

Q 2 : Retailer 2’s Order Quantity.
xi : A part of demand quantity (units/month) during a period, which is a random variable
following probability distribution.
f i (x): Probability density distribution function of xi (i = 1, 2).
Fi (x): Cumulative distribution function of xi (i = 1, 2).
Fi−1 (x): Inverse function of Fi .
pi : Unit retail price ($/unit) for retailer i = 1, 2 .
D(x, p1 , p2 ): Demand (units/month) which is a function of the retail prices.
w: Selling price ($/unit)per unit of the manufacturer to the retailers (unit purchasing cost
of products at the retailers).
vi : Unit salvage value/return price ($/unit) of unsold goods of the retailer i provided by
the manufacturer, for i = 1, 2.

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c: Purchasing cost/production cost ($/unit) of the manufacturer.

ri : Shortage cost ($/unit) of the retailer i = 1, 2.
β: Denotes the demand sensitivity of the retailer i on its sales price pi .
γ : Denotes the demand sensitivity of retailer i on its rival’s sales price p j .
E[M]: Expected profit ($/month) function of the manufacturer.
E[Ri ]: Expected profit ($/month) function of the retailer i,for i = 1, 2.
E AI P: Expected average integrated profit ($/month) of the chain.
x + : Max[x, 0], the positive part of x.

3 Mathematical formulation and analysis of the model

We have considered a two layer supply chain with one manufacturer and two competing
retailers.In this two-echelon supply chain, manufacturer sells its product through both the
retailers. Since there is a buyback policy among the manufacturer and the retailers, the retailer
one and two purchase Q 1 and Q 2 quantity of lot sizes respectively with wholesale price w
from the manufacturer. If the retailers fail to sale all of them by the end of the season, the
unsold items at retailers are buyback to the manufacturer at a salvage value vi for i = 1, 2.
The retailers and manufacturer are the risk-neutral firms those are controlled by the cen-
tralized decision maker. A common modelling approach used in the literature to capture the
trade-off between overstocking and under-stocking in the face of random demand for short-
life-cycle products is the formalism of single period inventory models, which is popularly
known as the news vendor problem.We adopt this modelling paradigm. The competing retail-
ers in our model stock and sell the products to the end customers. The retailers 1 & 2 sale their
products at prices p1 and p2 respectively.The actual customer demand Di ,i = 1, 2 for the
single period is random and it is represented as Di (xi , pi , p j ) = xi − βpi + γ p3−i where xi
∞
is a random variable that follows p.d.f f i (xi ), i.e., −∞ f i (xi )d xi = 1. The demand function
is decreasing in the retail price of own and increasing in the retail price of the competitor.
The linear and symmetrical demand model represents a situation in which two retailers have
equal competing powers in a duopolistic market place.We assume that γ ≤ β so that the
response functions are negatively sloped which, in turn, ensures the existence of the Nash
equilibrium.
The expected profit functions for the manufacturer and retailers are as follows.
E[M] = (w − c)(Q 1 + Q 2 ) − v1 E f1 (A1 (Q 1 ) − x1 )+ − v2 E f2 (A2 (Q 2 ) − x2 )+ , (1)
E[R1 ] = p1 E f1 [D1 ] − w Q 1 + v1 E f1 (A1 (Q 1 ) − xi )+ − r1 E f1 (x1 − A1 (Q 1 ))+ (2)
and
E[R2 ] = p2 E f2 [D2 ] − w Q 2 + v2 E f2 (A2 (Q 2 ) − x2 )+ − r2 E f2 (x2 − A2 (Q 2 ))+ (3)
where
Ai (Q i ) = Q i + βpi − γ p3−i , (i = 1, 2),
 Ai (Q i )
E fi (Ai (Q i ) − xi )+ = (Ai (Q i ) − xi ) f i (xi )d xi ,
−∞
 ∞
E fi (xi − Ai (Q i ))+ = (xi − Ai (Q i )) f i (xi )d xi ,
Ai (Q i )
 ∞
f i (xi )d xi = 1,
−∞

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 Ai (Q i )
Fi (Ai (Q i )) = f i (xi )d xi .
−∞
Now, our main objective is to determine the optimal values of the Economic Order Quantity
(EOQ) and the sales prices so that the profit of the chain is maximized. We decide to study
the decision mechanism under the following scenarios:
* Centralized supply chain(CS): In the centralized supply chain model, there is a
single decision maker who will be controlling by the chain’s desired outcome of the total
chain. In such system, the decision maker maximizes the total profit of the supply chain
intelligently by opting the service levels and corresponding retail prices so that all the
members of the chain can gain together. In this system,both the “with known distribution
function” and “distribution-free” cases are analyzed separately.
* Decentralized supply chain (DCS): In the decentralized supply chain system, all the
members of the chain including manufacturer and both the competing retailers take their
decisions independently and simultaneously in purview of maximizing their own profits
rather the profit of the whole chain.
* Stackelberg game approach: In this type of supply chain system, one of the members
of the chain leads the system while rest of the participants of the chain are the followers.
In manufacturer Stakelberg system, we take the Manufacturer as the leader of the chain
while both the competing retailers follow the decision taken by the manufacturer, whereas
, in retailer-Stakelberg system, the retailers find out optimal values of (Q i , pi ) follow-
ing Cournot–Bertrand theory which is followed by the manufacturer.Now it completely
depends on the leader whether he will determine the optimal decisions independently or
cooperatively with the other members of the chain.In manufacturer Stakelberg system,
the manufacturer determines optimal lot sizes (Q 1 , Q 2 ), and the retailers determine their
respective optimal prices following Bertrand theory.
The main objective of our model is to maximize the profits of the chain as well as the
profits of the individual members of the chain. This is a constraint problem which may be
solved by any of the standard search techniques.

3.1 Centralized supply chain (CS)

In Centralized system, both manufacturer and the retailers make decision by consulting
among their selves.Then, the prime objective of the members of the chain is to maximize
the integrated expected profit of the system. Therefore, the expected profit of the chain,
combining Eqs. (1–3), is
E I P = p1 E[D1 ]+ p2 E[D2 ]−c(Q 1 + Q 2 )−r1 E f1 (x1 − A1 (Q 1 ))+ −r2 E f2 (x2 − A2 (Q 2 ))+
= p1 (μ1 − βp1 + γ p2 ) + p2 (μ2 − βp2 + γ p1 ) − c(Q 1 + Q 2 )
 ∞
− r1 (x1 − Q 1 − βp1 + γ p2 ) f 1 (x1 )d x1
(Q 1 +βp1 −γ p2 )
∞
− r2 (x2 − Q 2 − βp2 + γ p1 ) f 2 (x2 )d x2 . (4)
(Q 2 +βp2 −γ p1 )

Now, differentiating E I P partially with respect to Q 1 , Q 2 , p1 and p2 , we have

 ∞
∂EI P
= −c + r1 f 1 (x1 )d x1 = −c + r1 − r1 F1 (Q 1 + βp1 − γ p2 ),
∂ Q1 (Q 1 +βp1 −γ p2 )
(5)

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∂2 E I P
= −r1 f 1 (Q 1 + βp1 − γ p2 ) < 0, (6)
∂ Q 21
 ∞
∂EI P
= −c + r2 f 2 (x2 )d x2 = −c + r2 − r2 F2 (Q 2 + βp2 − γ p1 ),
∂ Q2 (Q 2 +βp2 −γ p1 )
(7)

∂2 E I P
= −r2 f 2 (Q 2 + βp2 − γ p1 ) < 0, (8)
∂ Q 22
 ∞
∂EI P
= (μ1 − 2βp1 + 2γ p2 ) + r1 β f 1 (x1 )d x1
∂ p1 (Q 1 +βp1 −γ p2 )
 ∞
− r2 γ f 2 (x2 )d x2
(Q 2 +βp2 −γ p1 )
= (μ1 − 2βp1 + 2γ p2 + r1 β − r2 γ ) − r1 β F1 (Q 1 + βp1 − γ p2 )
+ r2 γ F2 (Q 2 + βp2 − γ p1 ), (9)

∂2 E I P
= −2β − r1 β 2 f 1 (Q 1 + βp1 − γ p2 ) − r2 γ 2 f 2 (Q 2 + βp2 − γ p1 ) < 0, (10)
∂ p12
 ∞
∂EI P
= (μ2 − 2βp2 + 2γ p1 ) − r1 γ f 1 (x1 )d x1
∂ p2 (Q 1 +βp1 −γ p2 )
 ∞
+ r2 β f 2 (x2 )d x2
(Q 2 +βp2 −γ p1 )
= (μ2 − 2βp2 + 2γ p1 − r1 γ + r2 β) + r1 γ F1 (Q 1 + βp1 − γ p2 )
− r2 β F2 (Q 2 + βp2 − γ p1 ), (11)

∂2 E I P
= −2β − r1 γ 2 f 1 (Q 1 + βp1 − γ p2 ) − r2 β 2 f 2 (Q 2 + βp2 − γ p1 ) < 0, (12)
∂ p22

∂2 E I P
= −r1 β f 1 (Q 1 + βp1 − γ p2 ), (13)
∂ p1 ∂ Q 1

∂2 E I P
= r1 γ f 1 (Q 1 + βp1 − γ p2 ), (14)
∂ p2 ∂ Q 1

∂2 E I P
= 0, (15)
∂ Q2∂ Q1

∂2 E I P
= r2 γ f 2 (Q 2 + βp2 − γ p1 ), (16)
∂ p1 ∂ Q 2

∂2 E I P
= −r2 β f 2 (Q 2 + βp2 − γ p1 ), (17)
∂ p2 ∂ Q 2

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∂2 E I P
= 2γ + r1 βγ f 1 (Q 1 + βp1 − γ p2 ) + r2 βγ f 2 (Q 2 + βp2 − γ p1 ). (18)
∂ p1 ∂ p2
For maximum value of E I P, Eqs. (5), (7), (9) and (11) are individually zero. Then from Eqs.
(5) and (7), we have
 
−1 r1 − c
Q 1 = −βp1 + γ p2 + F1 , (19)
r1
 
r2 − c
Q 2 = −βp2 + γ p1 + F2−1 . (20)
r2
Equating Eqs. (9) and (11) to zero and solving these, we have
 
c 1 γ μ2 + βμ1
p1∗ = + , (21)
2 2 β2 − γ 2
 
c 1 γ μ1 + βμ2
p2∗ = + , ∀β > γ . (22)
2 2 β2 − γ 2

Substituting p1∗ and p2∗ in Eqs. (19) and (20), we have the optimal lot size as follows:
 
r1 − c
Q ∗1 = −βp1∗ + γ p2∗ + F1−1 , (23)
r1
 
r2 − c
Q ∗2 = −βp2∗ + γ p1∗ + F2−1 . (24)
r2
The associated Hessian matrix is given by
⎛ ∂2 E I P ∂2 E I P ∂2 E I P ∂2 E I P ⎞
∂ Q 21 ∂ Q1∂ Q2 ∂ Q 1 ∂ p1 ∂ Q 1 ∂ p2
⎜ ⎟
⎜ ∂2 E I P ⎟
⎜ ∂2 E I P ∂2 E I P ∂2 E I P ⎟
⎜ ∂ Q2 ∂ Q1 ∂ Q 22 ∂ Q 2 ∂ p1 ∂ Q 2 ∂ p2 ⎟
H =⎜
⎜ ∂2 E I P
⎟.
⎟
⎜ ∂p ∂ Q ∂2 E I P ∂2 E I P ∂2 E I P ⎟
⎜ 1 1 ∂ p1 ∂ Q 2 ∂ p12 ∂ p1 ∂ p2 ⎟
⎝ ⎠
∂2 E I P ∂2 E I P ∂2 E I P ∂2 E I P
∂ Q 1 ∂ p2 ∂ Q 2 ∂ p2 ∂ p1 ∂ p2 ∂ p22

Substituting the above second order partial derivatives, the hessian matrix is
⎛ ⎞
−r1 f 1 0 −r1 β f 1 −r1 γ f 1
⎜ ⎟
⎜ 0 −r2 f 2 γ r2 f 2 −βr2 f 2 ⎟
H =⎜ ⎜ −βr f
⎟.
⎝ 1 1 γ r2 f 2 −x0 x2 ⎟ ⎠
γ r1 f 1 −βr2 f 2 x2 −x1

where f 1 = f 1 (Q ∗1 + βp1∗ − γ p2∗ ), f 2 = f 2 (Q ∗2 + βp2∗ − γ p1∗ ),x0 = (2β + β 2 r1 f 1 +

γ 2 r2 f 2 ), x1 = (2β + γ 2 r1 f 1 + β 2 r2 f 2 ) and x2 = (2γ + βγ r1 f 1 + βγ r2 f 2 ). To check the
nature of the Hessian matrix, we have to show that the matrix must be negative definite for
concavity of the E I P, i.e., the eigen values of the matrix are all negative real numbers.

Lemma 1 E I P has maximum at ( p1∗ , p2∗ , Q ∗1 , Q ∗2 ) if 4β 2 (1+βγ r1 f 1 ) < 4γ 2 +4βγ r1 f 1 +

6βγ 2 r2 f 2 + βγ 2 r12 f 12 + 3β 2 γ 2 r2 f 2 (r2 f 2 + r1 f 1 ) holds otherwise it is a saddle point.

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Proof here, the principal minors are as follows:

−r1 f 1 0
Δ1 = −r1 f 1 < 0, Δ2 = = r1 r2 f 1 f 2 > 0,
0 −r2 f 2

−r1 f 1 0 −r1 β f 1
Δ3 = 0 −r2 f 2 γ r2 f 2
−βr1 f 1 γ r2 f 2 −x0
= −2r1 r2 f 1 f 2 β < 0,
−r1 f 1 0 −r1 β f 1 −r1 f 1 γ
0 −r2 f 2 γ r2 f 2 −r2 f 2 β
Δ4 =
−βr1 f 1 γ r2 f 2 −x0 x2
γ r1 f 1 −βr2 f 2 x2 −x1
= 4r1 r2 f 1 f 2 (γ − β ) + 4βγ r1 f 1 r2 f 2 (γ 2 − β 2 ) + 6βγ 2 r1 f 1 r22 f 22
2 2 2 2

+ β 2 γ 2 r13 f 13 r2 f 2 + 3β 2 γ 2 r1 f 1 r23 f 23 + 3β 2 γ 2 r12 f 12 r22 f 22

> 0 if 4β 2 (1 + βγ r1 f 1 ) < 4γ 2 + 4βγ r1 f 1 + 6βγ 2 r2 f 2 + βγ 2 r12 f 12
+ 3β 2 γ 2 r2 f 2 (r2 f 2 + r1 f 1 )
holds.
For maximum value of E I P, the principal minors start with negative sign and other
minors keep alternative signs, i.e., Δ1 < 0, Δ2 > 0, Δ3 < 0 and Δ4 > 0. Therefore, E I P
attains maximum at ( p1∗ , p2∗ , Q ∗1 , Q ∗2 ) if 4β 2 (1 + βγ r1 f 1 ) < 4γ 2 + 4βγ r1 f 1 + 6βγ 2 r2 f 2 +
βγ 2 r12 f 12 + 3β 2 γ 2 r2 f 2 (r2 f 2 + r1 f 1 ) holds, otherwise it is a saddle point. Also, the optimal
solution is unique, as the system has only one solution. Consequently, E I P( p1∗ , p2∗ , Q ∗1 , Q ∗2 )
is global maximum if maximum value exists. 


3.2 Case-II: decentralized supply chain (DCS)

In this case, the manufacturer and both the competing retailers have the same decision making
power. This system determines the individual optimal strategies independently. In this system,
two cases may arise which are given below.

3.2.1 DCS with Stakelberg manufacturer and the retailers as leaders playing with
Bertrand competition

In this system, the manufacturer is the decision maker and retailers are the followers of
the decisions made by the manufacturer regarding to the ordering lot sizes only. Since the
retailers face directly the customers. Hence, the retailers have options to set their respective
sales prices following Bertrand game theoretic approach.In this approach, the retailers set their
sales prices, keeping in mind their individual profits.Then, the manufacturer first maximizes
his profit regarding ordering lot sizes (Q 1 , Q 2 ). Next, the retailers follow the manufacturer’s
suggested lot sizes owing to optimal sales prices and their respective maximum profits.
Generally, the retailers are attached directly with the end customers of the localities, and they
have an idea about the pulse of the customers’ demand. From this perspective, the retailers
determine optimal sales prices, whereas the manufacturer’s retail price is fixed. Consequently,
the manufacturer determines optimal lot sizes which are replenished/ordered by the retailers,

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as the manufacturer does not have scope to optimize sales prices to the end customers. Such
scenario occurs when the manufacturer does not have any dual-channel retail system. Now
differentiating E(M) with respect to Q 1 and Q 2 , we have
 (Q 1 +βp1 −γ p2 )
∂ E(M)
= (w − c) − v1 f 1 (x1 )d x1 , (25)
∂ Q1 −∞
 (Q 2 +βp2 −γ p1 )
∂ E(M)
= (w − c) − v2 f 2 (x2 )d x2 , (26)
∂ Q2 −∞
∂ 2 E(M)
= −v1 f 1 (Q 1 + βp1 − γ p2 ) < 0, (27)
∂ Q 21
∂ 2 E(M)
= −v2 f 2 (Q 2 + βp2 − γ p1 ) < 0, (28)
∂ Q 22
∂ 2 E(M)
= 0. (29)
∂ Q1∂ Q2
Equations (27) and (28) show that E(M) is a strictly concave function of (Q 1 , Q 2 ). For
optimal values of (Q 1 , Q 2 ), equating Eqs. (25) and (26) to zero and solving these, we have
the optimal lot sizes determined by the manufacturer on the basis of ( p1 , p2 ), suggested by
the retailers, as follows:
 
w−c
Q 1 = −βp1 + γ p2 + F1−1 , (30)
v1
 
w−c
Q 2 = −βp2 + γ p1 + F2−1 . (31)
v2
Here, the retailers have option to determine optimal sales prices jointly, but they have to
receive the lot sizes (Q 1 , Q 2 ) provided in Eqs. (30) and (31) respectively. Then,
∂ E(R1 )
= μ1 − 2βp1 − γ p2 + wβ, (32)
∂ p1
∂ 2 E(R1 )
= −2β < 0, (33)
∂ p12
∂ E(R2 )
= μ2 − 2βp2 − γ p1 + wβ, (34)
∂ p2
∂ 2 E(R2 )
= −2β < 0. (35)
∂ p22
Here, E(R1 ) and E(R2 ) are strictly concave functions, as in Eqs. (33) and (35) hold. Equating
Eqs. (32) and (34) to zero, and solving these, we have
2β(μ1 + βw) + γ (μ2 + βw)
p1∗ = , (36)
4β 2 − γ 2
2β(μ2 + βw) + γ (μ1 + βw)
p2∗ = , ∀2β > γ . (37)
4β 2 − γ 2
Therefore, the optimal sizes are
 
w−c
Q ∗1 = −βp1∗ + γ p2∗ + F1−1 , (38)
v1

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w−c
Q ∗2 = −βp2∗ + γ p1∗ + F2−1 . (39)
v2

3.2.2 DCS with retailer 1 and 2 who follow Cournot–Bertrand competition

In this case, manufacturer is the follower of the decisions taken by the retailers. This economic
scenario occurs when the manufacturer is outsider or he does not have any knowledge about
the market. But, the retailers have knowledge about the demand trend of the end customers,
as they are directly involved with the market. As a result, the retailers determine their own
optimal order quantities and sales prices to maximize their own profits individualy. The
manufacturer produces/supplies the optimal lot sizes determined by the retailers. Now, the
retailers optimize their respective lotsizes and sales prices individualy, keeping in mind their
own profits. Therefore, the partial derivatives of E(R1 ) and E(R2 ) are
∂ E(R1 )
= (μ1 − 2βp1 + γ p2 + r1 β) − (r1 − v1 )β F1 (Q 1 + βp1 − γ p2 ), (40)
∂ p1
∂ E(R1 )
= (r1 − w) − (r1 − v1 )β F1 (Q 1 + βp1 − γ p2 ), (41)
∂ Q1
∂ 2 E(R1 )
= −2β − (r1 − v1 )β 2 f 1 (Q 1 + βp1 − γ p2 ) < 0, (42)
∂ p12
∂ 2 E(R1 )
= −(r1 − v1 ) f 1 (Q 1 + βp1 − γ p2 ) < 0, (43)
∂ Q 21
∂ 2 E(R1 )
= −(r1 − v1 )β f 1 (Q 1 + βp1 − γ p2 ) < 0, (44)
∂ p1 ∂ Q 1
∂ E(R2 )
= (μ2 − 2βp2 + γ p1 + r2 β) − (r2 − v2 )β F2 (Q 2 + βp2 − γ p1 ), (45)
∂ p2
∂ E(R2 )
= (r2 − w) − (r2 − v2 )β F2 (Q 2 + βp2 − γ p1 ), (46)
∂ Q2
∂ 2 E(R2 )
= −2β − (r2 − v2 )β 2 f 2 (Q 2 + βp2 − γ p1 ) < 0, (47)
∂ p22
∂ 2 E(R2 )
= −(r2 − v2 ) f 2 (Q 2 + βp2 − γ p1 ) < 0, (48)
∂ Q 22
∂ 2 E(R2 )
= −(r2 − v2 )β f 2 (Q 2 + βp2 − γ p1 ) < 0. (49)
∂ p2 ∂ Q 2
Equating Eqs. (40), (41), (45) and ( 46) to zero and solving these, we have the optimal solution
as follows:
2β(μ1 + βw) + γ (μ2 + βw)
p1∗ = , (50)
4β 2 − γ 2
2β(μ2 + βw) + γ (μ1 + βw)
p2∗ = , ∀2β > γ , (51)
4β 2 − γ 2
 
∗ ∗ ∗ −1 r1 − w
Q 1 = −βp1 + γ p2 + F1 , (52)
r1 − v1
 
r2 − w
Q ∗2 = −βp2∗ + γ p1∗ + F2−1 . (53)
r2 − v2

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Here, ( ∂ ∂E(r 1)
)( ∂ 1)
) − ( ∂∂ QE(R 1) 2
2 2 E(R 2

Q2 ∂ p 2 1 ∂ p1
) = 2β(r1 − v1 ) f 1 (Q ∗1 − βp1∗ + γ p2∗ ) > 0, as r1 > v1 .
1 1

Similarly, ( ∂ ∂E(R 2)
)( ∂ ∂E(R 2)
)−( ∂∂ QE(R 2) 2
2 2 2

Q 22 p22 2 ∂ p2
) = 2β(r2 −v2 ) f 2 (Q ∗2 −βp2∗ +γ p1∗ ) > 0, as r2 >
v2 .The inequalities (42), (43), (47) and (48) are all negative. Hence, E(R1 ) and E(R2 ) are
strictly concave functions.

3.3 Integrated system for distribution free case

In this section, our aim is to maximize E I P against the worst possible distribution  the
distributions F1 (x1 ) and F2 (x2 ) of (x1 , x2 ) are unknown.In order to maximize E AI in Eq. (4),
we have the following lemmas (Alfares and Elmora 2005; Bertsimas and Thiele 2004)
Lemma 2
 
+ 1
E fi (xi − Ai (Q i )) ≤ σi2 + (Ai (Q i ) − μi )2 − (Ai (Q i ) − μi )
2
Proof Here,
1 
E fi (xi − Ai (Q i ))+ = E fi |xi − Ai (Q i )| + E fi (xi − Ai (Q i )) ∀xi ∼ f i (μi , σi2 )
2
Using Cauchy–Schwarz inequality, we have
 
E fi | xi − Ai (Q i ) |≤ E fi (xi − Ai (Q i ))2 = σi2 + (Ai (Q i ) − μi )2 .
With the help of this inequality, we have
 
+ 1
E fi (xi − Ai (Q i )) ≤ σi + (Ai (Q i ) − μi ) − (Ai (Q i ) − μi ) .
2 2
2
The proof is completed here. 

Lemma 3 For any Ai (Q i ), there exist distribution functions F1 , F2  where the upper
bounds in lemma 2 are tight.
Proof The upper bounds in lemma 2 can be shown to be tight since these are attained by the
distributions:
⎧  ⎫
⎪ μi −Ai (Q i ) ⎪
⎨ Ai (Q i ) + σi + (Ai (Q i ) − μi ) w. p.ζ = 2 (1 + σ 2 +(A (Q )−μ )2 )
⎪ ⎪
2 2 1
⎬
xi =  i i i i

⎪
⎪ μi −Ai (Q i )
)⎪
⎪
⎩ Ai (Q i ) − σi + (Ai (Q i ) − μi ) w. p.(1 − ζ ) = 2 (1 −  2
2 2 1
⎭
σi +(Ai (Q i )−μi )
2

 
Therefore, E fi (xi − Ai (Q i ))+ ={ σi2 + (Ai (Q i ) − μi )2 }ζ = 21 { σi2 + (Ai (Q i ) − μi )2 −
(Ai (Q i ) − μi )}. Hence, the uppers bounds are tight.

Using the inequality E fi (xi − Ai (Q i ))+ ≤ 21 { σi2 + (Ai − μi )2 − (Ai − μi )} in Eq. (4),
we have
E AI ≥ p1 (μ1 − βp1 + γ p2 ) + p2 (μ2 − βp2 + γ p1 ) − c(Q 1 + Q 2 )

r1
− { σ12 + (Q 1 + βp1 − γ p2 − μ1 )2 − (Q 1 + βp1 − γ p2 − μ1 )}
2

r2
− { σ22 + (Q 2 + βp2 − γ p1 − μ2 )2 − (Q 2 + βp2 − γ p1 − μ2 )}
2
= Min(Q 1 , Q 2 , p1 , p2 ). (54)

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Now, our objective is to maximize Min(Q 1 , Q 2 , p1 , p2 ), i.e., Max Min(Q 1 , Q 2 , p1 , p2 ) =

G. Differentiating the above partially with respect to Q 1 , Q 2 , p1 and p2 , we have
⎧ ⎫
∂G r1 ⎨ (Q 1 + βp1 − γ p2 − μ1 ) ⎬
= −c −  −1 , (55)
∂ Q1 2 ⎩ σ 2 + (Q + βp − γ p − μ )2 ⎭
1 1 1 2 1
⎧ ⎫
∂G r2 ⎨ (Q 2 + βp2 − γ p1 − μ2 ) ⎬
= −c −  −1 , (56)
∂ Q2 2 ⎩ σ 2 + (Q + βp − γ p − μ )2 ⎭
2 2 2 1 2
⎧ ⎫
∂G r1 ⎨ (Q 1 + βp1 − γ p2 − μ1 )β ⎬
= (μ1 − 2βp1 + 2γ p2 ) −  −β
∂ p1 2 ⎩ σ 2 + (Q + βp − γ p − μ )2 ⎭
1 1 1 2 1
⎧ ⎫
r2 ⎨ −(Q 2 + βp2 − γ p1 − μ2 )γ ⎬
−  +γ , (57)
2 ⎩ σ 2 + (Q + βp − γ p − μ )2 ⎭
2 2 2 1 2
⎧ ⎫
∂G r2 ⎨ (Q 2 + βp2 − γ p1 − μ2 )β ⎬
= (μ2 − 2βp2 + 2γ p1 ) −  −β
∂ p2 2 ⎩ σ 2 + (Q + βp − γ p − μ )2 ⎭
2 2 2 1 2
⎧ ⎫
r1 ⎨ −(Q 1 + βp1 − γ p2 − μ1 )γ ⎬
−  +γ , (58)
2 ⎩ σ 2 + (Q + βp − γ p − μ )2 ⎭
1 1 1 2 1

∂2G r1 σ12
=− < 0, (59)
∂ Q 21 2{σ12 + (Q 1 + βp1 − γ p2 − μ1 )2 }3/2
∂2G r2 σ22
=− < 0, (60)
∂ Q22 2{σ2 + (Q 2 + βp2 − γ p1 − μ2 )2 }3/2
2

∂2G 1 r1 σ12 β 2
= −2β −
∂ p12 2 {σ12 + (Q 1 + βp1 − γ p2 − μ1 )2 }3/2

r2 σ22 γ 2
+ 2 < 0, (61)
{σ2 + (Q 2 + βp2 − γ p1 − μ2 )2 }3/2

∂2G 1 r2 σ22 β 2
= −2β −
∂ p22 2 {σ2 + (Q 2 + βp2 − γ p1 − μ2 )2 }3/2
2

r1 σ12 γ 2
+ 2 < 0, (62)
{σ1 + (Q 1 + βp1 − γ p2 − μ1 )2 }3/2
∂2G r1 σ12 β
=− , (63)
∂ p1 ∂ Q 1 2{σ12 + (Q 1 + βp1 − γ p2 − μ1 )2 }3/2
∂2G r1 σ12 γ
= , (64)
∂ p2 ∂ Q 1 2{σ1 + (Q 1 + βp1 − γ p2 − μ1 )2 }3/2
2

∂2G
= 0, (65)
∂ Q2∂ Q1

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∂2G r2 σ22 γ
= , (66)
∂ p1 ∂ Q 2 2{σ2 + (Q 2 + βp2 − γ p1 − μ2 )2 }3/2
2

∂2G r2 σ22 β
=− , (67)
∂ p2 ∂ Q 2 2{σ22 + (Q 2 + βp2 − γ p1 − μ2 )2 }3/2

∂2G 1 r1 σ12 βγ
= 2γ +
∂ p1 ∂ p2 2 {σ1 + (Q 1 + βp1 − γ p2 − μ1 )2 }3/2
2

r2 σ22 βγ
+ 2 . (68)
{σ2 + (Q 2 + βp2 − γ p1 − μ2 )2 }3/2

For optimum values of E I P, Eqs.(55), (56), (57) and (58) are zero separately. Now solving
these, we have

c (μ1 β + μ2 γ )
p1∗ =+ , (69)
2 2(β 2 − γ 2 )
c (μ2 β + μ1 γ )
p2∗ = + , (70)
2 2(β 2 − γ 2 )
μ1 c σ1 (r1 − 2c)
Q ∗1 = − (β − γ ) + √ , (71)
2 2 2 c(r1 − c)
μ2 c σ2 (r2 − 2c)
Q ∗2 = − (β − γ ) + √ . (72)
2 2 2 c(r2 − c)

At the above optimal solution,

Substituting the above partial derivatives in H , the hessian matrix is

⎛ ⎞
γ (4c(r1 −c))3/2
− (4c(r2σ1 −c)) − β(4c(r 1 −c))
3/2 3/2
0
⎜ 1 1 r2 2σ r 2
1 1 2σ1 r12 ⎟
⎜ ⎟
⎜ − (4c(r2σ2 −c))
3/2 γ (4c(r2 −c))3/2
− β(4c(r 2 −c))
3/2 ⎟
⎜ 0 ⎟
⎜ ⎟
2 2σ2 r22 2σ2 r22
2 r2
H =⎜ ⎟.
⎜ β(4c(r1 −c))3/2 γ (4c(r2 −c))3/2 ⎟
⎜− −x3 x4 ⎟
⎜ 2σ1 r12 2σ2 r22 ⎟
⎝ ⎠
γ (4c(r1 −c))
− β(4c(r 2 −c))
3/2 3/2

2σ1 r12 2σ r 2
x4 −x5
2 2


γ 2 (4c(r2 −c))3/2
where x3 = 2β + 21 β (4c(r 1 −c))
, x4 = 2γ + βγ (4c(r1 −c))3/2
2 3/2

σ1 r 1
2 + σ2 r 2
2 2 σ1 r12
+
 
(4c(r2 −c))3/2
and x5 = 2β + 21 γ (4c(r 1 −c))
+ β (4c(r 2 −c))
2 3/2 2 3/2

σ r2 σ r2 σ r2
. For concavity of E I P,
2 2 1 1 2 2

we have to show that the eigenvalues of H are all negative real numbers. 


[c(r1 −c)]3/2 +γ 2 + σ 8cσ rγ2 r 2 [(r1 −

2 3 4
Lemma 4 E I P has maximum at ( p1∗ , p2∗ , Q ∗1 , Q ∗2 ) if 4βγ
σ r2 1 1 1 2 1 2
2[c(r1 −c)]3/2
c)(r2 − c)]3/2 > β 2 + σ1 r12
(β 2 + β 3 ) holds, otherwise it is a saddle point.

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Ann Oper Res (2018) 260:481–500 495

Proof Here, the principal minors are as follows:

− [4c(r2σ1 −c)]
3/2
[4c(r1 − c)]3/2 2 0
1 r1
Δ1 = − < 0, Δ 2 =
− [4c(r2σ2 −c)]
2 3/2
2σ1 r1 0 2
r
2 2

16c3 [(r1 − c)(r2 − c)]3/2

= > 0,
σ1 σ2 r12 r22
− [4c(r2σ1 −c)] − β[4c(r 1 −c)]
3/2 3/2

r2
0 2σ r 2
1 1 1 1
γ [4c(r2 −c)]3/2
− [4c(r2σ2 −c)]
3/2
Δ3 = 0 r2 2σ2 r22
2 2
γ [4c(r2 −c)]3/2
− β[4c(r 1 −c)]
3/2

2σ r 2 2σ2 r22
−x3
1 1

32βc3
=− [(r1 − c)(r2 − c)]3/2 < 0,
σ1 σ2 r12 r22
γ (4c(r1 −c))3/2
− (4c(r2σ1 −c)) − β(4c(r 1 −c))
3/2 3/2

r2
0 2σ r 2 2σ1 r12
1 1 1 1
γ (4c(r2 −c))3/2 β(4c(r2 −c))3/2
− (4c(r2σ2 −c))
3/2
0 r2 2σ2 r22
− 2σ2 r22
Δ4 = 2 2
γ (4c(r2 −c))3/2
− β(4c(r 1 −c))
3/2

2σ r 2 2σ2 r22
−x3 x4
1 1
γ (4c(r1 −c))3/2 β(4c(r2 −c))3/2
2σ1 r12
− 2σ2 r22
x4 −x5

16c3 [(r1 − c)(r2 − c)]3/2 2βγ 2
= [4c(r1 − c)]3/2 + 4γ 2
σ1 σ2 r12 r22 σ1 r12
 
32c3 γ 4 [4c(r1 − c)]3/2 2
+ [(r1 − c)(r2 − c)] − 4β +
3/2 2
(β + β )
3
>0
σ1 σ2 r12 r22 σ1 r12

4βγ 2
[c(r1 −c)]3/2 +γ 2 + σ 8cσ rγ2 r 2 [(r1 −c)(r2 −c)]3/2 > β 2 + 2[c(rσ1 −c)]
3 4 3/2
holds if σ1 r12 r2
(β 2 +β 3 ).
1 2 1 2 1 1
For maximum value of E I P, the principal minors start with negative sign and other minors
keep alternative signs, i.e., Δ1 < 0, Δ2 > 0, Δ3 < 0 and Δ4 > 0. Therefore, E I P attains
[c(r1 − c)]3/2 + γ 2 + σ 8cσ rγ2 r 2 [(r1 − c)(r2 − c)]3/2 >
2 3 4
maximum at ( p1∗ , p2∗ , Q ∗1 , Q ∗2 ) if 4βγ
σ r2 1 1 1 2 1 2
2[c(r1 −c)]3/2
β2 + σ1 r12
(β 2 + β 3 ) holds, otherwise it is a saddle point. Also, the optimal solution
is unique as the system has only one solution. Therefore, E I P( p1∗ , p2∗ , Q ∗1 , Q ∗2 ) is global
maximum if it attains maximum value. 


3.4 Case-III: profit sharing in integrated system

In this situation, the surplus profit is shared according to their optimal individual profits in
decentralized system. Then, the profits of the members are as follows:


E I P ∗ − E ∗DC (M) − E ∗DC (r1 ) − E ∗DC (r2 )
E ∗∗ (M) = E ∗DC (M) + E ∗DC (M), (73)
E ∗DC (M) + E ∗DC (r1 ) + E ∗DC (r2 )

E I P ∗ − E ∗DC (M) − E ∗DC (r1 ) − E ∗DC (r2 )
E ∗∗ (r1 ) = E ∗DC (r1 ) + E ∗DC (r1 ) (74)
E ∗DC (M) + E ∗DC (r1 ) + E ∗DC (r2 )

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and

∗∗ E I P ∗ − E ∗DC (M) − E ∗DC (r1 ) − E ∗DC (r2 )
E (r2 ) = E ∗DC (r2 ) + E ∗DC (r2 ), (75)
E ∗DC (M) + E ∗DC (r1 ) + E ∗DC (r2 )

where DC indicates decentralized system and ∗∗ indicates best optimal solutions of the
members.

4 Numerical example

We consider the values of the key parameters in appropriate units as follows: { f (x) =
x−μ
−1( i )2
√1 e 2 σi , ∀ − ∞ ≤ x ≤ ∞}, μ1 = 1600 units, σ1 = 2 units, μ2 = 1550 units,
σ 2π
σ2 = 3 units, β = 5, γ = 1, c = $100, w = $150, r1 = $180, r2 = $170, v1 = $70 and
v2 = $75. Then, the optimal solutions for different cases are shown in Table 1. In Table 1,
it is observed that integrated system is best strategy for the members of the chain and the
required profit sharing and their respective profits are given there. In the previous analysis, the
profit functions are concave and the required optimal solutions are provided in this Table. For
Case-I & IV the hessian matrix at the respective optimal solutions are both negative definite,
because the eigenvalues are (−1123.17, −451.433, −0.463062, −0.320599, for Case-I) and
(−1388.31, −553.02, −0.463879, −0.321032, for Case-IV). The error of the optimal values
of profit functions E AI obtained from known distribution (Case-III in Table 1) and distrib-
ution free case (Case-IV in Table 1) is (E AI withknowndistribution − E AI distribution f r ee ) =
$17229.00 − $172200.00 = $90.00. Hence, the distribution free case provides near optimal
solution compare to the known normal distribution because of smaller standard deviations
of the distribution of the demand functions. This model is more applicable when the distrib-
utions are unknown. In this case, the means and standard deviations are evaluated from the
sample data of demands of the end customers.

5 Conclusion

The classical newsboy problem has a great implication in supply chain management. The
aim of this problem is to find the order quantity of a single product for stochastic demand
pattern that minimizes the expected cost constituted by inventory and shortage cost only.
Over the past decades, it has included many features by researchers. In our model, two layer
supply chain consisting of one manufacturer and two competitive retailers is proposed for
stochastic demand which is also selling price sensitive. As demand is uncertain in nature, the
retailers may face shortages or unsold products. Consequently, penalty cost for stock out and
buyback policy between manufacturer and retailers for unsold items are considered in our
model. The retailers have options to settle sales prices independently or jointly in order to
maximize their respective profits. This model is studied under Stakelberg, Bertrand, Cournot–
Bertrand and integrated approaches to maximize the whole expected profit of the chain. The
optimal solutions under different game theoretic approaches are obtained and compared
with themselves. The integrated system provides a best optimal solution, among the other
mentioned strategies. Because, optimal solution is obtained giving euqall importance on all
cost and profit parameters of the chain. In integrated system, the whole profit of the chain is
shared by the members following profit sharing mechanism. This article has the following
novelty compare to the existing literature.

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Table 1 Optimal solution in different cases

Scenarios Optimal values of variables

p1∗ ($) p2∗ ($) Q ∗1 (units) Q ∗2 (units) E ∗ (M)($) E ∗ (r1 )($) E ∗ (r2 )($) E I P ∗ ($)

Case-I 260.61 256.06 554.16 531.60 54037.30* 61038.80 56084.60 171160.70

Case-II 260.61 256.06 551.82 527.89 53935.20 61095.40* 56162.00 171192.60
Case-III 248.96 244.79 599.72 574.33 54351.28 61450.39 56488.33 172290.00
Case-IV 248.96 244.79 599.78 574.46 54322.89 61418.29 56458.82 172200.00

Case-I: manufacturer determines (Q ∗1 , Q ∗2 ) after getting ( p1∗ , p2∗ ) from the retailers, Case-II: manufacturer follows (Q ∗1 , p2∗ ) and (Q ∗2 , p2∗ ) suggested by the retailers, Case-III:
integrated system with known distribution (Normal distribution), Case-IV: integrated system with distribution free case

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498 Ann Oper Res (2018) 260:481–500

Firstly, two layer supply chain model for competitive retailers involving buyback and
profit sharing mechanism has been developed extensively for stochastic and price dependent
demand of the products. Secondly, the distribution free case is analyzed for integrated sys-
tem that has an important implication in any business management related problems where
demand of the products do not follow a particular known distribution function. In such cases,
mean and standard deviation are measured by sampling distribution and an approximated
near optimal solution is suggested for the problem. Third, close-type optimal solutions for
different game theoretic approaches are found out to maximize the respective expected profit
which are handled easily by the practitioners of the management.
The proposed model can be extended immediately for discrete type demand pattern. Many
avenues such as supply disruptions, promotion effort, bargaining, joint return policy with
revenue sharing contract, return policy with sales rebate and penalty (SRP) contract, revenue
sharing with SRP and dual-channel retail system may be included further in future research.

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