Coordinating Lot Sizing Decisions Under Bilateral Information Asymmetry

We consider inventory management decisions when manufacturing and warehousing are controlled by independent entities. The latter possess private information that affects their choices and are allowed to communicate via a mediator who attempts to streamline their decisions without restricting their freedom. The mediator designs a mechanism based on quantity discounts to minimize the overall system costs, attempting to reach a win–win situation for both entities. Using the Revelation Principle, we show that it is in the entities’ self‐interest to reveal their information and we prove that coordination is attainable even under bilateral information asymmetry. The acceptable cost allocation is not unique, providing adequate flexibility to the mediator during mechanism design; the flexibility may reflect the relative power of the entities and is quantified in our work by a series of computational experiments. Our approach is motivated by inventory management practices in a manufacturing group and, thus, it is directly applicable to real‐life cases.