Contract term three: Fixed prices

The option contract is an agreement that determines the price prior to the start of the season.. In addition, the price is a fixed parameter in the agreement. These factors are discussed in this section.

Prices are affected by supply volume and quality. It is a supply driven parameter rather than demand despite the other innovative products. Prices for fruits follow a reverse bell shape pattern as shown in the figure below13. This means the prices are high at the beginning of the season, eventually it comes down and by the peak time the prices are at the lowest possible level. Then toward the end of the season the prices start to increase, but rarely

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supply availability. Supply availability in contrast follows the opposite shape of the price. It starts with low volume; during the peak time is at the highest volume and then eventually goes down.

Figure ‎7-5 Schematic of price over time

Prices cannot be set at the fixed amount because of the fluctuations. Setting the price in a range that covers the highest and lowest prices are difficult because the upper and lower limits are uncertain and unpredictable, second the wide range of price does not help the parties in the chain. It adds more uncertainty to the agreement although applying weighted average price could be a solution. However, the notion of fixed price could make problems for the chain.

The parties would not enter in an agreement with fixed price due to in season wide price fluctuations. The underlined supermarket chain is one of the retail chains in the market. The supermarket lose the competitive advantage if they enter to a fixed price agreement. Price needs to be set prior to the season in order to fulfil option contract requirements. However, as described in section 6.4.2, prices are finalised during the season and week by week. The weekly pricing are allocated independently and based on the availability of fruit. The reason behind the weekly pricing is high supply uncertainty. The prices are supply driven and supply is affected by weather impacts which add uncertainty to the available volume.

Time Time Time Price

Chapter Seven

Only one of the growers was willing to enter into an agreement where the price is determined before the season starts. This grower plants the crops under a covered and protected area which decreases the impacts of weather changes. For this direct grower, the amount of available strawberries by weeks is reliable and accurate. Furthermore, he can calculate the cost of production. Then he will be able to enter into an agreement with a fixed price. Albeit, the fixed prices must follow the reverse bell shape pattern. Otherwise, even this grower would not enter to the agreement. This highlights the impact of supply uncertainty into the pricing.

It has to be added to this case scenario, this direct grower is an exclusive grower to the Supermarket, and could fulfil more than fifty percent of the Supermarket demand.

Other suppliers and growers believe that fixed prices lessen both their confidence and the Supermarket’ in the relationship. It adds risk of losing market share and profit. If the price in the market becomes lower than what the supermarket is supposed to purchase from the suppliers, then the supermarket either lose market share or profit. The supermarket will lose in price competition with the other retail chains.

There are three more factors in the pricing: order quantity, promotions and quality of fruits. The suppliers agree on price based on the order quantities received from the Supermarket. If the Supermarket orders in reasonable volume then the suppliers would agree on the lower price. This is because the higher order volume guarantees less waste at the farm and they can send out the fruits more expeditiously.

There is a similar situation with the quality of fruit for the Supermarket. The importance of delivering consistently high quality fruit to the consumers forces the Supermarket to pay a little higher price for the produce. The order quantity and quality are considered as hidden qualitative factors in the pricing, which indicate the value of negotiations in the supply chain.

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promotion weeks are agreed independently as the market price. The usual pricing rules are not valid in promotion prices.

If sudden weather events during the off season or season do not happen, then applying the promotions are assured. But similar to the regular prices, promotion prices and time of exercise cannot be fixed prior to the season.

Promotions are novel to the development of option contracts. Promotions are not applied on the sale plans of other innovative products such as toys, apparel and electronics. Promotions are accepted by supply chain participants because this is the best way to sell the fruits in the peak time, otherwise the fruits overripe and become waste. The very short shelf life time and decay over time differentiate the fruit supply chains from other products. Option contracts without considering the promotion plans in the fruit supply chains are not effective.

The suppliers agree on selling their produce in lower prices to enable the Supermarket to beat the competitors. Although it certainly affects the total revenue of the suppliers, benefits of long term relationship with the Supermarket covers the loss.