Price Markdowns to Induce Customers to Opt Out of Free Returns
40 Pages Posted: 20 Jun 2019
Date Written: August 24, 2018
We study a newly emerging product return policy in the retail e-commerce industry. Alongside the conventional free return option, consumers are offered an additional return alternative called opt-out of free return (FO). If the free return option is selected, consumers can return the purchased item over a predetermined grace period for a full refund. However, if consumers forego free return and pick FO, the firm offers them a price markdown. If the consumers pick this option, they can still return the product during the grace period, but they will have to pay a fixed penalty and a variable penalty proportional to the product's purchase price. We model this return policy with the aim of deriving managerial insights on when offering FO would be beneficial to firms, and if they offer it, how the firm can set the optimal markdown level. We analyze this policy under both the biased and unbiased (rational) beliefs scenarios, and show the following. (i) Offering FO alongside free returns can have a significant positive impact on a retailer's profitability under both the biased and unbiased scenarios. (ii) Under biased beliefs, the lower uncertainty in consumers' belief makes it more likely that offering FO is beneficial to the firm when the consumers' ex ante expected valuation is sufficiently large; while under rational beliefs scenario, if consumers ex ante expected valuation is large, the higher the uncertainty is, the more likely that the firm benefits from offering FO. (iii) Under biased beliefs, the more the consumers are optimistic (i.e., they overestimate the chance of retaining the product pre-purchase), the more likely that offering FO will be beneficial to the firm.
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