Information Asymmetry, Manufacturer-Retailer Contracts, and Two-Sided Entry

Abstract

We investigate the economic determinants of contract structure and entry in an empirical setting with transfer contracts, which specify that manufacturers directly sell their products in retail stores while retailers collect the sales revenue and return a transfer to the manufacturers. Using a unique dataset describing the entry decisions of clothing manufacturers into a retail department store, we estimate a two-sided, asymmetric-information entry model. We then use this model to compare profit estimates under transfer contracts to counterfactual profit estimates obtained under common alternative contract formats. Results show that, when adverse selection is present, transfer contracts dominate other contract formats from the retailer’s perspective; otherwise, the common alternative contract formats dominate.

Keywords: two-sided entry, incomplete information, manufacturer-retailer contracts, MPEC, spillovers