Design of the Reverse Channel for Remanufacturing: Must Profit-Maximization Harm the Environment?

Abstract

A key attribute of a remanufacturing strategy is the division of labor in the reverse channel, especially whether remanufacturing is performed in-house or outsourced. We investigate this decision for a retailer who accepts returns of a remanufacturable product. Our formulation considers the cost structures of the two strategies, uncertainty in the input quality of the collected/returned used products, consumer willingness-to-pay for remanufactured product, the extent to which the remanufactured product cannibalizes demand for new product, and the power structure in the channel.

For the profit-maximizing retailer the differentials in variable remanufacturing costs drive strategy choice, and higher fixed costs of in-house remanufacturing favors outsourcing. The variable remanufacturing costs and the balance of power in the prospective outsourced reverse channel are the key drivers of environmental impact, as measured by the retailer’s propensity to remanufacture. While profitability and environmental goals often conflict, they align under certain conditions. These include (a) the third-party has less bargaining power; or (b) the fixed cost for in-house remanufacturing is relatively high. All else equal, when remanufacturing is outsourced, the environment fares better if the third-party has leadership power.

We generalize to the cases when remanufacturing achieves a quality level less than “good-as-new” and when used items have non-zero salvage value. Analysis of these extensions illuminates how relative power in the reverse channel drives the firms’ preferences, as well as the end customers’ consumption experience.

Keywords: Reverse Channel Design, Remanufacturing; Outsourcing, Environmental Impact

JEL Classification: N6, Q5