Optimal Markdown Pricing: Implications of Inventory Display Formats in the Presence of Strategic Customers

Abstract

We propose a game-theoretical model of a retailer who sells a limited inventory of a product over a finite selling season by using one of two inventory display formats: display all (DA) and display one (DO). Under DA, the retailer displays all available units so that each arriving customer has perfect information about the actual inventory level. Under DO, the retailer displays only one unit at a time so that each customer knows about product availability but not the actual inventory level. Recent research suggests that when faced with strategic consumers, the retailer could increase expected profits by making an upfront commitment to a price path. We focus on such pricing strategies in this paper, and study the potential benefit of DO compared to DA, and its effectiveness in mitigating the adverse impact of strategic consumer behavior. We find support for our hypothesis that the DO format could potentially create an increased sense of shortage risk, and hence it is better than the DA format. However, although potentially beneficial, a move from DA to DO is typically very far from eliminating the adverse impact of strategic consumer behavior. We observe that, generally, it is not important for a retailer to modify the level of inventory when moving from a DA to a DO format; a change in the display format, along with an appropriate price modification, is typically sufficient. Interestingly, across all scenarios in which a change in inventory is significantly beneficial, we observed that only one of the following two actions takes place: either the premium price is increased along with a reduction in inventory, or inventory is increased along with premium price reduction. We find that the marginal benefit of DO can vary dramatically as a function of the per-unit cost to the retailer. In particular, when the retailer's per-unit cost is relatively high, but not too high to make sales unprofitable or to justify exclusive sales to high-valuation customers only, the benefits of DO appear to be at their highest level, and could reach up to 20% increase in profit. Finally, we demonstrate that by moving from DA to DO, while keeping the price path unchanged, the volatility of the retailer's profit decreases.retailing, dynamic pricing, game-theory applications, marketing-operations interface, strategic customers, revenue management, inventory display

Dynamic Pricing in the Presence of Social Learning and Strategic Consumers

“…For early work focusing on the implications of each of the two classes of policies, the reader is referred to Stokey (1979) and Landsberger and Meilijson (1985) for pre-announced pricing, and to Besanko and Winston (1990) for responsive pricing. Since then, both classes of policies have been used extensively to study various operational decisions; recent examples include Yin et al (2009), who assume a pre-announced price plan to study the effects of alternative inventory display formats on firm profit, and Cachon and Swinney (2009), who assume a responsive price plan to study the firm's quantity and salvage-pricing decisions. This paper is a first attempt towards understanding the relative effectiveness of pre-announced and responsive pricing when the firm and consumers face quality uncertainty and operate in the presence of SL.…”

“…Apart from pricing, the effects of strategic consumer behavior also extend to a range of other operational decisions; examples include decisions pertaining to stocking quantities (Liu and van Ryzin 2008), inventory display formats (Yin et al 2009), the implementation of quick-response and fast-fashion practices Swinney 2009, 2011), the timing of new product launches (Besbes and Lobel 2013), and the employment of advance selling (YU et al 2013a), to name but a few.…”

Online and Offline Information for Omnichannel Retailing

“…Su and Zhang (2009) show that it is always beneficial to the retailer if he can credibly make an ex ante quantity commitment. Yin et al (2009) investigate the impact of two different display formats, i.e., display-all versus display-one. Allon and Bassamboo (2011) study a situation where a retailer could share unverifiable and nonbinding (i.e., cheap talk) inventory information with consumers.…”

Enhancing Economic Sustainability by Markdown Money Supply Contracts in the Fashion Industry: China vs U.S.A.

“…In the existing literature, most MMP related studies focus on the optimal markdown strategy with a dynamic pricing scheme during the selling season, in which the markdown pricing depends on the inventory level and market demand forecasting (e.g., [13][14][15]). However, it is important to study MMP from the supply chain perspective.…”

“…The strategy of markdown pricing from the retailer perspective has attracted considerable attention in the supply chain management literature in recent years (e.g., [13][14][15][16]). Although MMP is popularly examined in the theoretical supply chain analysis, its adoption and implication in specific industrial context are under-studied.…”