Inventories, Manufacturer Returns Policies, and Equilibrium Price Dispersion under Demand Uncertainty

Abstract

Returns policies can prevent a manufacturer's product from being discounted. Such discounting discourages inventory holdings, and can deny adequate retail representation to products with uncertain demand. We demonstrate that returns are not simply a substitute for resale price maintenance, but can instead be employed to support a desirable degree of price dispersion at retail. Surprisingly, optimal return policies depend only on market demand functions and marginal production costs. The manufacturer need not know the distribution of demand uncertainty for its product, but can instead rely on retailers to order appropriately. Our results generalize to oligopoly settings.

Distribution contracts to support optimal inventory holdings under demand uncertainty

“…4 We here follow Dana, Jr. (1999), who provides a monopoly model with demand uncertainty characterized by a random variable with a discrete distribution. Our analysis is essentially the same if we follow Marvel and Wang (2007) in considering a more general distribution. 5 We treat a royalty as a state-contingent payment made by retailers to the supplier, as distinguished from inventories that must be ordered and paid for in advance of the resolution of demand uncertainty.…”

“…5 We allow for the possibility that κ b 0, in which case the supplier imposes a charge for unsold units. We expect implementation 2 Our market is similar to those studied in Marvel and Wang (2007). 3 See Marvel and Peck (2008) for a model that highlights the importance of holding costs.…”

“…7 If we replace the state-contingent payment (royalty) ρ with a buyback credit, so that our supply contract is {w, 0, κ}, we term the result a buyback or returns contract. These contracts have been analyzed by Marvel and Wang (2007). Finally, if the contract includes both a buyback credit and a royalty, but no up-front per unit price for inventory, we term it a generalized consignment contract.…”

“…In an earlier paper, (Marvel and Wang, 2007), we have shown that a constant wholesale price together with a buy-back credit for unsold inventories is sufficient to coordinate retailer inventory holdings, generating the distribution of prices and availability that suppliers prefer, even when suppliers do not have access to the information about demand held by their retailers. Perhaps most surprisingly, we demonstrated that buy-backs operate in the same fashion when there are multiple competing suppliers serving the market in question.…”

Overstock – A Real Option Approach

“…For Marvel and Wang (2007) and Bish, Liu and Suwandechochai (2009), the manufacturer can avoid the impact of demand uncertainty by developing a better ordering prioritization system from the retailer. Graman (2010) split demand into two parts: predicted demand and non predicted demand.…”