Flexible-Duration Extended Warranties with Dynamic Reliability Learning

Production and Operations Management, 23 (4) 645 - 659

Rotman School of Management Working Paper No. 2312746

32 Pages Posted: 24 Aug 2013 Last revised: 1 Oct 2014

See all articles by Guillermo Gallego

Guillermo Gallego

Columbia University

Ruxian Wang

Johns Hopkins University - Carey Business School

Julie Ward

Hewlett-Packard Enterprise - Hewlett-Packard Company

Ming Hu

University of Toronto - Rotman School of Management

Jose Luis Beltran

Hewlett-Packard Enterprise - Hewlett-Packard Company

Date Written: August 19, 2013

Abstract

Frequent technological innovations and price declines adversely affect sales of extended warranties as product replacement upon failure becomes an increasingly attractive alternative. To increase sales and profitability, we propose offering flexible-duration extended warranties. These warranties can appeal to customers who are uncertain about how long they will keep the product as well as to customers who are uncertain about the product's reliability. Flexibility may be added to existing services in the form of monthly-billing with month-by-month commitments, or by making existing warranties easier to cancel with pro-rated refunds. This paper studies flexible warranties from perspectives of both customers and the provider under customers' reliability learning. We present a model of customers' optimal coverage decisions and show that customers' optimal coverage policy has a threshold structure under some mild conditions. We further show that flexible warranties can result in higher profits and higher attach rates in a homogeneous market as well as in a heterogeneous market with multiple segments differing in various dimensions.

Keywords: post-sales service, flexible warranty, reliability learning, threshold policy

Suggested Citation

Gallego, Guillermo and Wang, Ruxian and Ward, Julie and Hu, Ming and Beltran, Jose Luis, Flexible-Duration Extended Warranties with Dynamic Reliability Learning (August 19, 2013). Production and Operations Management, 23 (4) 645 - 659; Rotman School of Management Working Paper No. 2312746. Available at SSRN: https://ssrn.com/abstract=2312746

Guillermo Gallego

Columbia University ( email )

3022 Broadway
New York, NY 10027
United States

Ruxian Wang (Contact Author)

Johns Hopkins University - Carey Business School ( email )

100 International Drive
Baltimore, MD 21202
United States

Julie Ward

Hewlett-Packard Enterprise - Hewlett-Packard Company ( email )

United States

Ming Hu

University of Toronto - Rotman School of Management ( email )

105 St. George st
Toronto, ON M5S 3E6
Canada
416-946-5207 (Phone)

HOME PAGE: http://ming.hu

Jose Luis Beltran

Hewlett-Packard Enterprise - Hewlett-Packard Company ( email )

United States

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