Should Designers Worry About Market Systems?

Abstract

We examine how profit-maximizing designs are influenced by two structural aspects of market systems: (1) the structure of manufacturer-retailer interactions and (2) the structure of heterogeneity in consumer preference modeling. We first model firms as players in a profit-seeking game that compete on product attributes and prices offered. We then model the interactions of manufacturers and retailers in Nash competition under alternative channel structures and compare the equilibrium conditions for each case. We find that under linear logit consumer choice, optimal design can be decoupled from the game, and design decisions can be made without regard to price, competition, or channel structure. However, when consumer preference coefficients are heterogeneous over the population, channel structure is key to determining which designs are most profitable. We examine the extent of this influence in a vehicle design case study from the literature and find that the presence of heterogeneity leads different channel structures to imply different profit-maximizing designs. These findings imply that the common assumption that manufacturers set retail prices may produce suboptimal designs with respect to alternative channel structures. The results highlight the need for coordination between engineering design and product planning decision-makers and the importance that the structure of market systems plays in making design tradeoffs optimally.