Category Management and Coordination in Retail Assortment Planning in the Presence of Basket Shopping Consumers

Abstract

T his paper studies the assortment planning problem with multiple merchandise categories and basket shopping consumers (i.e., consumers who desire to purchase from multiple categories). We present a duopoly model in which retailers choose prices and variety level in each category and consumers make their store choice between retail stores and a no-purchase alternative based on their utilities from each category. The common practice of category management (CM) is an example of a decentralized regime for controlling assortment because each category manager is responsible for maximizing his or her assigned category's profit. Alternatively, a retailer can make category decisions across the store with a centralized regime. We show that CM never finds the optimal solution and provides both less variety and higher prices than optimal. In a numerical study, we demonstrate that profit loss due to CM can be significant. Finally, we propose a decentralized regime that uses basket profits, a new metric, rather than accounting profits. Basket profits are easily evaluated using point-of-sale data, and the proposed method produces near-optimal solutions.Key words: game theory; assortment planning; optimization History: Accepted by Wallace J. Hopp, marketing; received August 3, 2004. This paper was with the authors 14 1 2 months for 1 revision.Assortment planning is both extremely important and challenging for retailers. No assortment planning process is capable of accounting for all of the marketing and operational implications of its decisions due to limited data and the complexity of the task. Organizational forms such as category management (CM) (ACNielsen 1998) and assortment planning models in the literature (e.g., Kök and Fisher 2004) focus on the selection of products in a single category assuming store traffic is exogenous, i.e., prices and variety within a category influence demand conditional on a store visit, but does not influence store choice. For example, many retailers are adopting an "efficient assortment" strategy, which primarily seeks to find the profit maximizing level of variety by eliminating low-selling products (Kurt Salmon Associates 1993). However, if a retailer reduces variety in all categories based on single-category analyses, then the store becomes less attractive and some customers are likely to defect to other retailers, reducing store traffic. This concern is particularly relevant with respect to basket shoppers-consumers who desire to purchase from multiple categories. If a basket shopper does not find an item that she wants in one category, she may purchase her entire basket from another retailer (Bell and Lattin 1998). Although retailers are well aware of this interdependence across categories, there is little research on what can be done to address it. This paper develops a stylized model to evaluate CM at two competing retailers in the presence of basket shopping consumers. Each retailer offers two merchandise categories. Retailers determine prices and variety level in each category. Singl...

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