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Direct Distribution and Complete Foreclosure

When a monopoly manufacturer supplies competing retailers via multilateral secret contracts, the manufacturer’s lack of commitment power will disable it from achieving an optimal profit. This paper considers the scenario wherein the manufacturer can develop its own direct channel and attempts to understand whether the manufacturer would have an incentive to foreclose the incumbent retailers. We find that the incumbent retailers may not be foreclosed even if the manufacturer’s direct channel is almost as efficient as them. On the contrary, even if the retailers are more efficient than the manufacturer’s direct channel, there is still a possibility of foreclosure. Whether the foreclosure will occur or not is contingent on the characteristics of market demand rather than firms’ relative efficiency level. Moreover, the presence of the manufacturer’s direct channel always results in a higher price and, therefore, lower consumer welfare, regardless of whether a complete foreclosure is presented.