What should the encroaching supplier do in markets with some loyal customers? A Stackelberg Game Approach

Considering a supply chain (SC) with partial vertical integration, we attempt to seek answers to several questions related to the cooperation-competition based friction, abundant in such networks. Such an SC can represent a supplier with an in-house production unit that attempts to control an out-house production unit via the said friction. The two production units can have different sets of loyal customer-bases and the aim of the manufacturer supplier-duo would be to get the best out of the two customer bases. Our analysis shows that under certain market conditions, an optimal strategy might be to allow both units to earn positive profits—particularly when they hold similar market power and when customer loyalty is high. In cases of weaker customer loyalty, however, the optimal approach may involve pressurizing the out-house unit to operate at minimal profits. Even more intriguing is the scenario where the out-house unit has a greater market power and customer loyalty remains strong; here, it may be optimal for the in-house unit to operate at a loss just enough to dismantle the downstream monopoly.