Choice of Organizational Structure under Incomplete Information

This paper studies choice of organizational structure (vertical separation or vertical integration) under demand uncertainty with incomplete information. In order to highlight our assertions, a price duopolistic competition model with stochastic demand is considered. The stochastic demand, once realized, is assumed to be only observable by downstream of a vertically separated firm, neither upstream of a vertically separated firm nor a vertically integrated firm possesses information regarding true market demand. It is shown that the expected total profit for a vertically separated firm increases with market volatility. As a result, both firms tend to choose vertical separation regardless of degree of uncertainty in a choice of organizational structure game