On the Value of Commitment and Availability Guarantees when Selling to Strategic Consumers

40 Pages Posted: 28 Aug 2007 Last revised: 8 May 2012

Xuanming Su

University of Pennsylvania - Operations & Information Management Department

Fuqiang Zhang

Washington University in St. Louis - John M. Olin Business School

Date Written: July 1, 2008

Abstract

This paper studies the role of product availability in attracting consumer demand. We start with a newsvendor model, but additionally assume that stockouts are costly to consumers. The seller sets an observable price and an unobservable stocking quantity. Consumers anticipate the likelihood of stockouts and determine whether to visit the seller. We characterize the rational expectations (RE) equilibrium in this game. We propose two strategies that the seller can use to improve profits: (i) commitment (i.e., the seller, ex-ante, commits to a particular quantity), and (ii) availability guarantees (i.e., the seller promises to compensate consumers, ex-post, if the product is out of stock). Interestingly, the seller has an incentive to over-compensate consumers during stockouts, relative to the first-best benchmark under which social welfare is maximized. We find that first-best outcomes do not arise in equilibrium, but can be supported when the seller uses a combination of commitment and availability guarantees. Finally, we examine the robustness of these conclusions by extending our analysis to incorporate dynamic learning, multiple products, and consumer heterogeneity.

Keywords: availability guarantee, commitment, product availability, search costs, stockouts, newsvendor, rational expectations

JEL Classification: D21, D83, D84, L20

Suggested Citation

Su, Xuanming and Zhang, Fuqiang, On the Value of Commitment and Availability Guarantees when Selling to Strategic Consumers (July 1, 2008). Available at SSRN: https://ssrn.com/abstract=1010269 or http://dx.doi.org/10.2139/ssrn.1010269

Xuanming Su (Contact Author)

University of Pennsylvania - Operations & Information Management Department ( email )

Philadelphia, PA 19104
United States

Fuqiang Zhang

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

HOME PAGE: http://www.olin.wustl.edu/faculty/zhang/

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