Product Differentiation, Strategic Divisionalization, and Persistence of Monopoly

Abstract

This paper analyzes the strategic incentive of oligopolists to create autonomous rival divisions when products are differentiated. We consider a two-stage game where firms choose the number of autonomous divisions in the first stage and all the divisions engage in Cournot competition in the second. It is shown that product differentiation ensures the existence of an ( ) interior subgame perfect Nash equilibrium SPNE , and the equilibrium number of divisions increases with the degree of substitution among products and the number of firms. Further, if divisions are allowed to divide further, they always will, which leads to total rent dissipation. Thus, parent firms have incentives to unilaterally restrict their divisions from further dividing. In the free-entry equilibrium, it is found that the possibility of setting up autonomous divisions is a natural barrier to entry. Incumbents may persistently earn abnormally high profits. In the cases where product differentiation is difficult, the only pure-strategy free-entry SPNE is the monopoly outcome even if the entry cost is relatively low.

Is sibling rivalry good or bad for high technology organizations?

“…Researchers have studied product differentiation is several different contexts (Clay, Krishnan, Wolfe, & Fernandes, 2002;Clemons, II-Horn, & Hitt, 2002;Desai, Kekre, Radhakrishan, & Srinivasan, 2001;Mazzeo, 2002;Yuan, 1999). For example, Clemons et al (2002) examined the effect of online price distribution and product differentiation on the airline ticket offerings of online travel agents (OTAs) and by Clay et al (2002) on online bookstores.…”

“…In general, they both found substantial price dispersion online attributable to product differentiation. Both Mazzeo (2002) and Yuan (1999) have developed models to explicate how competition among firms and among divisions reduces with increased product differentiation.…”

Divisionalisation and Cournot Competition Yield Bertrand Outcomes

“…This article makes several contributions to the literature. First, we extend the analysis from the usual linear demand case (Corchon (1991), Polasky (1992), Baye et al (1996), and Yuan (1999)) to the general demand case and obtain some of their results as a special case. Second and more importantly, we provide a complementary result to the well-known Kreps and Scheinkman (1983) results, to further highlight the complex relationship between Cournot and Bertrand competition.…”

“…More speci®cally, we consider a two-stage simultaneous-move oligopoly game of divisionalisation and Cournot competition. Games of this sort are familiar in the literature (see Polasky (1992), and Baye et al (1996), and Yuan (1999), for example). These games can be described as follows: suppose there are initially m ®rms supplying a single homogeneous product.…”

Market structure and strategic bi-sourcing

“…Kogut and Kulatilaka (1994), Rob and Vettas (2003), Choi and Davidson (2004) and Mukherjee (2008) explain why a firm sells in a foreign market from its domestic and foreign plants. Schwartz and Thompson (1986), Baye et al (1996), Yuan (1999) and Corchon and Gonzales-Maestre (2000) show how strategic advantage may encourage firms to create competition in the oligopolistic final goods markets. In contrast, bi-sourcing in our analysis neither creates competition in the bi-sourced firm's market nor considers production in multiple plants by the bi-sourced firm; rather it reduces rent extraction by the outside input supplier.…”