Option Pricing with Downward-Sloping Demand Curves: The Case of Supply Chain Options

Apostolos Burnetas () and Peter Ritchken ()
Additional contact information
Apostolos Burnetas: Department of Mathematics, University of Athens, Athens 15784, Greece
Peter Ritchken: Department of Banking and Finance, Weatherhead School of Management, Case Western Reserve University, 10900 Euclid Avenue, Cleveland, Ohio 44106

Management Science, 2005, vol. 51, issue 4, 566-580

Abstract: This article investigates the role of option contracts in a supply chain when the demand curve is downward sloping. We consider call (put) options that provide the retailer with the right to reorder (return) goods at a fixed price. We show that the introduction of option contracts causes the wholesale price to increase and the volatility of the retail price to decrease. In general, options are not zero-sum games. Conditions are derived under which the manufacturer prefers to use options. When this happens the retailer is also better off, if the uncertainty in the demand curve is low. However, if the uncertainty is sufficiently high, then the introduction of option contracts alters the equilibrium prices in a way that hurts the retailer.

Keywords: real options; downward-sloping demand curve; Stackelberg games; supply chain contracts (search for similar items in EconPapers)
Date: 2005
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (56)

Downloads: (external link)
http://dx.doi.org/10.1287/mnsc.1040.0342 (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:inm:ormnsc:v:51:y:2005:i:4:p:566-580

Access Statistics for this article

More articles in Management Science from INFORMS Contact information at EDIRC.
Bibliographic data for series maintained by Chris Asher ().