Trade Promotions and their Effect

The grocery industry is famous for the use of temporary price cuts as a mechanism to stimulate sales. The price cuts, also called trade promotions or deals, encourage large-volume purchases by distributors and retailers and thus permit the manufacturer to push product downstream. Note that pushing product downstream creates stock pressure at the distributor or retailer, thus providing them the incentive to lower retail prices and push the product to the consumer. Inventory at the consumers home increases the propensity to consume this item. In short, the grocery supply chain uses product inventory to stimulate product movement downstream and thus (potentially) product consumption. 

To understand such pressures, consider the relationship between a retailer and a manufacturer in a supply chain. Assuming that the retailers warehouse supplies many stores, the demand at the warehouse can be considered to be relatively stable, with a constant rate of D units per unit time. Given an ordering cost and a holding cost at the retailer, it is optimal for the retailers order sizes to follow the economic order quantity to minimize retailer ordering and holding costs. 

Consider the impact of the manufacturer offering a temporary price cut by decreasing the wholesale price by a factor of 8 so that the offered price is 8c. The retailer now has to decide the quantity to buy at this discounted price. The tradeoff is the lower cost of goods sold vs the increased inventory costs. Details of this section are from the model in [67]. 

In the absence of any trade promotion, the retailer would order the economic order quantity Q as follows  

Suppose the manufacturer offers a trade promotion, i.e., price reduc- 

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