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What is the relationship between inventory and sales? Clearly, inventory could increase sales: expanding inventory creates more choice (options, colors, etc.) and might signal a popular/desirable product. Or, inventory might encourage a consumer to continue her search (e.g., on the theory that she can return if nothing better is found), thereby decreasing sales (a scarcity effect). We seek to identify these effects in U.S. automobile sales. Our primary research challenge is the endogenous relationship between inventory and sales--e.g., dealers influence their inventory in anticipation of demand. Hence, our estimation strategy relies on weather shocks at upstream production facilities to create exogenous variation in downstream dealership inventory. We find that the impact of adding a vehicle of a particular model to a dealer's lot depends on which cars the dealer already has. If the added vehicle expands the available set of submodels (e.g., adding a four-door among a set that is exclusively two-door), then sales increase. But if the added vehicle is of the same submodel as an existing vehicle, then sales actually decrease. Hence, expanding variety across submodels should be the first priority when adding inventory--adding inventory within a submodel is actually detrimental. In fact, given how vehicles were allocated to dealerships in practice, we find that adding inventory actually lowered sales. However, our data indicate that there could be a substantial benefit from the implementation of a 'maximize variety, minimize duplication' allocation strategy: sales increase by 4.4% without changing the total number of vehicles at each dealership. History: Accepted by Vishal Gaur, operations management. Funding: M. Olivares acknowledges funding from the Chilean National Fund for Scientific and Technological Development (Conicyt) [Grant FONDECYT-1161333] and the Complex Engineering Systems Institute [PIA-FB0816]. Keywords: retail operations * inventory competition * empirical operation management * instrumental variables * automobile industry * scarcity, 1. Introduction In early 2008, before the financial crisis, car dealerships in the United States held enough vehicles to cover sales for 75 days (WardsAuto market data). However, immediately following [...]

We study the following question: How does competition influence the inventory holdings of General Motors' dealerships operating in isolated U.S. markets? We wish to disentangle two mechanisms by which local competition influences a dealer's inventory: (1) the entry or exit of a competitor can change a retailer's demand (a sales effect); and (2) the entry or exit of a competitor can change the amount of buffer stock a retailer holds, which influences the probability that a consumer finds a desired product in stock (a service-level effect). Theory is clear on the sales effect--an increase in sales leads to an increase in inventory (albeit a less than proportional increase). However, theoretical models of inventory competition are ambiguous on the expected sign of the service-level effect. Via a Web crawler, we obtained data on inventory and sales for more than 200 dealerships over a six-month period. Using cross-sectional variation, we estimated the effect of the number and type of local competitors on inventory holdings. We used several instrumental variables to control for the endogeneity of market entry decisions. Our results suggest that the service-level effect is strong, nonlinear, and positive. Hence, we observe that dealers carry more inventory (controlling for sales) when they face additional competition. Key words: inventory competition; empirical; entry; supply chain management; automobile industry History: Received June 7, 2007; accepted May 11, 2009, by Aleda Roth, operations and supply chain management. Published online in Articles in Advance July 10, 2009., 1. Introduction How does local competition influence a retailer's inventory holdings? Although an active theoretical literature has recently emerged to explore this question, the question has so far received no [...]