Advance Selling with Interdependent Customer Valuations
40 Pages Posted: 20 Apr 2012 Last revised: 25 Apr 2012
Date Written: August 12, 2011
Advance selling is widely used in practice, but in significantly different formats. For some products sellers offer discounts during advance selling, while for other products sellers charge a premium. Some sellers make all capacity available for advance selling, while others limit (ration) advance sales or do not offer it at all. This paper shows that interdependence of customer valuation may explain some of these differences in sellers’ strategies. We consider a seller who can offer a single product to customers twice, in advance and in spot. Customers choose whether and when to buy, but if they buy in advance, they are uncertain about their own valuations. Customers’ valuations are realized in spot and they may range from fully independent to perfectly correlated, creating different markets (different characteristics of aggregate demand) for the seller.
Facing these customers, the seller chooses prices in both periods and also what portion of the total capacity to offer in advance. We describe how the optimal strategy and benefits of advance selling depend on the interdependence of customer valuation, as well as other production and market parameters such as unit cost, capacity level, advance and spot market size. We find that a change in valuation interdependence can lead to dramatically different policies for the seller. For example, when individual valuations are highly diverse and consumer population is large, the seller must offer a discount during advance selling, but she may limit the advance sales. On the other hand, when valuations are highly correlated, the seller can add a premium during advance selling. For the same valuation interdependence, the qualitative nature of the optimal strategy changes with available capacity. We show that our results are well aligned with several applications in practice.
JEL Classification: C7, E3
Suggested Citation: Suggested Citation