Bidding For Bidders? How the Format for Soliciting Supplier Participation in NYOP Auctions Impacts Channel Profit


Title of the Article : Bidding For Bidders? How the Format for Soliciting Supplier Participation in NYOP Auctions Impacts Channel Profit

Author Information : Scott Fay (Whitman School of Management, Syracuse University)
Robert Zeithammer (Anderson School of Management, UCLA)

Year of Publication : Management Science (2016)

Summary of Findings : To obtain the maximum profit from a Name-Your-Own-Price market, the retailer needs to induce service providers to reveal their true costs (e.g., via bidding to be the chosen supplier) AND strategically manage the probabilities that a given consumer bid will be accepted (which may involve accepting bids that generate a net loss and rejecting bids that would have generated a net benefit).

Research Questions : 1. Can a NYOP channel generate as much profit as a posted-price channel can? If so, what are the characteristics of the optimal NYOP channel?

2. Do the NYOP structures that are most commonly seen in real-life obtain the optimal channel profit? If not, what are the source of these short-comings and how close do they come to reaching the optimal channel profit?

3. What are the challenges and obstacles channel members would face in trying to implement the optimal NYOP mechanism?

What we know : In nearly all previous academic research, the predicted profit of a NYOP selling mechanism is lower than the profit that would be obtained from simply using posted prices. Furthermore, there is large variance in how different NYOP sellers implement their business models (which has led to a large variance in how researchers model NYOP markets). Very recent work has shown how a monopolist producer could use a NYOP model to obtain the highest possible profit. But, in practice, nearly all NYOP channels are operated by retailers who do not produce their own products or services, but instead procure the products from a set of possible suppliers.

Novel Findings : We provide the first complete model of a two-sided NYOP market, taking into account both how to set the price threshold at which consumer bids will be accepted and how to manage procurement of the product. We construct a mechanism, which we refer to as a Modified Sealed-Bid auction (MSP), that enables an NYOP retailer to manage the acceptance rate so as to generate the highest bids from consumers as possible (given that the firm cannot observe buyers' true valuations), solicit bids from potential suppliers in a way that their true costs can be uncovered, and procure their services only when there is an acceptable buyer.

Novel Methodology : The paper relies on mechanism-design techniques which have been used extensively in other settings (most notably, auctions and signaling games in the Economics literature). The advantage of this approach is that the specifics of the model set-up (e.g., timing of decisions and strategy set available to each player) become irrelevant. Thus, mechanism-design identifies the maximum profit obtainable under any possible selling mechanism (given a distribution of buyer valuations and seller costs, which are privately observed by each player). Therefore, when we show that our suggested NYOP mechanism (namely, MSP) obtains the optimal allocation, we are demonstrating that no other business model could generate a strictly higher level of profit.

Implications for Practice : We demonstrate that each of the current variations of NYOP selling which have been (or are currently are being) used in practice fail to generate the maximum profit from this channel. We identify the reasons for these short-comings, e.g., failure to use the supplier with the lowest cost and failing to induce the highest possible bids from consumers. Thus, our paper suggests ways to improve the efficiency and profitability of NYOP markets. Some specific suggestions include incorporating the use of procurement auctions and advice for how to manage the acceptance/rejection decisions of consumer bids.

Implications on Research: Our methodological approach could be utilized by other researchers to provide more general and robust examinations of NYOP markets. Furthermore, while we offer a more optimistic view of the NYOP business channel (i.e., we demonstrate how a NYOP market can earn the same profit as using posted prices, whereas previous research indicated NYOP markets would be strictly less profitable), there is still not an adequate explanation for why a retailer would use a NYOP business model rather than posted prices. In other words, we have shown that NYOP can catch up to posted prices, but it would be useful to know if there are any particular situations where a NYOP format can strictly outperform posted prices.

Full Citations : Scott Fay and Robert Zeithammer. 2016. “Bidding for Bidders? How the Format for Soliciting Supplier Participation in NYOP Auctions Impacts Channel Profit” Management Science. Forthcoming.

Abstract : In a Name-Your-Own-Price (NYOP) auction, consumers bid for a product or service. If a bid exceeds the concealed threshold price, the consumer receives the product at her bid price. This paper examines how to optimize the interactions between the NYOP retailer and service providers, while, at the same time, managing the bid acceptance rates in order to induce the desired consumer bidding behavior. Channel profit is impacted by how the retailer decides whether or not a given consumer bid will be accepted and, if so, which service provider is chosen to supply a unit of the product to the consumer. We devise a mechanism, the Modified Second-Price (MSP) auction, which maximizes channel profit.

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To obtain maximum profit from a Name-Your-Own-Price market, the retailer must induce service providers to reveal true costs and strategically manage probabilities of bid acceptances.

Scott Fay

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