Markdown Pricing with Quality Perception

37 Pages Posted: 7 Aug 2020 Last revised: 11 Sep 2020

See all articles by Rim Hariss

Rim Hariss

McGill University, Desautels Faculty of Management, Students

Georgia Perakis

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Wichinpong Park Sinchaisri

Massachusetts Institute of Technology (MIT) - School of Engineering; The Wharton School, University of Pennsylvania - Operations, Information and Decisions Department

Yanchong Zheng

Massachusetts Institute of Technology (MIT) - Sloan School of Management

Date Written: June 23, 2020

Abstract

Problem Definition: Consumers often perceive higher-priced products to have higher quality. Less is known on how quality perception is affected by price markdowns. In addition, it is an open question whether and how consumers’ ex-ante expectation on a future markdown affects their quality perception as well as purchase decisions. We answer these questions in a markdown setting under a fixed inventory.

Academic/Practical Relevance: This paper adds to the growing literature that incorporates consumers’ behavioral regularities in revenue management by studying the new dimension of quality perception and generates new insights absent in the current literature. Our results offer insights on how retailers should adapt their markdown strategy in the presence of price-based quality perception.

Methodology: We develop a consumer model that incorporates quality perception and emotional loss when the expected markdown is too optimistic as compared to the actual markdown. We embed this model into the retailer’s markdown optimization and examine the impact of consumers’ behavioral factors on the retailer’s optimal strategy. Finally, we design and conduct a consumer study to calibrate our model and validate the functional relationships among key factors.

Results: Consumers’ quality perception increases with the products full price while it decreases with the (expected) markdown. We show that the retailer’s optimal markdown is nonmonotone in these quality perception parameters. The nonmonotonicity is driven by the nontrivial tradeoff of trying to maintain a higher perceived quality by the consumers while controlling potential loss emotion that could arise if consumers observe a smaller-than-expected markdown, particularly when total market demand is not very large. Furthermore, we find that it is beneficial for the retailer to pre-announce and commit to a markdown strategy to prevent a mismatch between consumers’ expectation and the actual markdown. This approach benefits the retailer by eliminating the negative effect on sales of the consumers’ loss emotion due to an optimistic expectation.

Managerial Implications: Ignoring these behavioral factors can substantially hurt the retailer’s payoff. When inventory is tight, it is critical to correctly capture consumers quality perception (38% average loss in payoff if ignored). When instead inventory is sufficient, the retailer should be mindful of the potential emotional loss that its markdown could create among its consumers.

Keywords: Markdown pricing, quality perception, loss emotion, forward-looking consumers, behavioral operations

Suggested Citation

Hariss, Rim and Perakis, Georgia and Sinchaisri, Wichinpong and Zheng, Yanchong, Markdown Pricing with Quality Perception (June 23, 2020). MIT Sloan Research Paper No. 5390-18, Available at SSRN: https://ssrn.com/abstract=3634129 or http://dx.doi.org/10.2139/ssrn.3634129

Rim Hariss (Contact Author)

McGill University, Desautels Faculty of Management, Students ( email )

1001 Sherbrooke St. West
Montreal
Canada

Georgia Perakis

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street
E62-565
Cambridge, MA 02142
United States

Wichinpong Sinchaisri

Massachusetts Institute of Technology (MIT) - School of Engineering ( email )

MA
United States

The Wharton School, University of Pennsylvania - Operations, Information and Decisions Department ( email )

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

Yanchong Zheng

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

100 Main Street
E62-416
Cambridge, MA 02142
United States

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
52
Abstract Views
236
rank
423,398
PlumX Metrics