The Design and Introduction of Product Lines When Consumer Valuations are Uncertain

This article presents a model of the design and introduction of a product line when the firm is uncertain about consumer valuations for the products. We find that product line introduction strategy depends on this uncertainty. Specifically, under low levels of uncertainty the firm introduces both models during the first period; under higher levels of uncertainty, the firm prefers sequential introduction and delays design of the second product until the second period. Under intermediate levels of uncertainty the firm's first product should be of lower quality than one produced by a myopic firm that does not take product line effects into consideration. We find that when the firm introduces a product sequentially, the strategy might depend on realized demand. For example, if realized demand is high, the firm's second product should be a higher‐end model; if demand turns out to be low, the firm's second product should be a lower‐end model or replace the first product with a lower‐end model.     

When to Offer Lower Quality or Remanufactured Versions of a Product

We investigate the profitability of adding a lower quality or remanufactured product to the product portfolio of a monopoly firm, both in single‐period and steady‐state settings. Consumer behavior is characterized by a deterministic utility function for the original product and a nonlinear relative utility function for the lower quality product. We find a threshold for the cost of the low‐quality product below which it is optimal to add it to the firm's portfolio, and show that while a cost advantage is necessary to make the lower quality offering profitable under linear or convex relative utility functions, market segmentation alone can justify the addition of the lower quality product under concave relative utility functions. In particular, we characterize (i) the new product cost under which it is optimal to offer a lower quality version of the product even if it is as costly to produce as the original product; and (ii) the weighted average of new and remanufactured product costs in the steady state under which it becomes cost effective to offer new products under the remanufactured label. Finally, we also identify the maximum possible profits from customer segmentation and the form of the relative utility function that achieves them. We discuss the implications for the common marketing practices of branding and generics.     

How Does Product Recovery Affect Quality Choice?

We study the impact of product recovery on a firm's product quality choice, where quality is defined as an observable performance measure that increases a consumer's valuation for the product. We consider three general forms of product recovery: (i) when product recovery reuses (after reprocessing) quality inducing components or material (e.g., remanufacturing), (ii) when product recovery does not reuse quality inducing components or material but it is overall profitable (e.g., cell phone recycling), and (iii) when product recovery is costly (but mandated by legislation, e.g., recycling of small appliances in the European Union). Using a stylized economic model, we show that the form of product recovery, recovery cost structure, and the presence of product take‐back legislation play an important role in quality choice. Generally speaking, product recovery increases the firm's quality choice, except for some instances of recovery form (ii). In addition, we find that product take‐back legislation can lead to higher quality choice as opposed to voluntary take‐back. We further demonstrate that both the firm and the consumers benefit from recovery form (ii), while both are worse off with recovery form (iii). However, environmental implications of the three recovery modes differ from their impact on consumer surplus and firm profit. While recovery forms (i) and (iii) reduce consumption and increase environmental benefits, the same is not true with recovery form (ii), which can increase consumption, potentially resulting in higher environmental impact.     

Quality Provision with Heterogeneous Consumer Reservation Utilities

This study examines a firm's quality and price decisions when consumers differ not only in their willingness‐to‐pay for quality but also in their reservation utility for the basic product. We find that while the firm offers lower‐quality products when consumers' valuations for quality deteriorate, the optimal quality may increase with a negative shift in consumers' reservation utilities. We also investigate the optimal price and quality of the products within a vertically differentiated product line when the number of products is exogenously given. The existing literature shows that when consumers differ only in their willingness‐to‐pay for quality, the firm sets the efficient quality for consumers with the highest valuation for quality, whereas the concern for cannibalization pushes down the quality of inferior products. We find that when consumers are heterogeneous in both their reservation utility and valuation for quality, the concern for cannibalization may distort the quality upwards, even for consumers with the highest willingness‐to‐pay for quality. In addition, a low‐quality product may enjoy a higher profit margin than a high‐quality product within the product line.     

Strategic Product/Service Innovations of an Online Firm

We study the incentives that drive an online firm to make various types of innovations in a competitive environment. We develop and use a simplified price competition model between two retailers, one online and one offline. A given fraction of consumers, called the Internet penetration, comparison shop online, independent of their customer type, thereby creating two markets for the offline retailer, a captive market and a competitive market. The online product has the steeper of the two linear utility functions, which means that the customers who buy online in our model are high end. We focus on the competitive region in which both retailers are (strictly) profitable in the competitive market and consider innovations that increase high‐end appeal, low‐end appeal, and/or reduce unit cost. We find that the online firm has a strong incentive to invest in innovations that either reduce unit cost and/or, equivalently, increase the appeal to all consumers equally. Investments of this type are strategic complements: implementing one increases the value of another, so the value of two innovations of this type is more than the sum of the values of each individually. We identify a relative strength measure of the online firm such that, as its high‐end appeal increases and/or its unit cost decreases, we say that the online firm is stronger. This strength measure facilitates drawing an explicit dividing line between strong and weak online firms. If Internet penetration increases, the online firm's profits increase if and only if it is strong. If penetration increases over time, it is possible for a strong firm to turn weak and see its profits decrease and possibly disappear completely. A strong online firm has more opportunity to profit from low‐end innovations than does a weak one, while the opposite is true for high‐end innovations. Interestingly, some innovations may actually decrease the online firm's profits. We discuss the implications of our results for existing and future online innovations.     

Supplier Behavior in Capacity Investment Competition: An Experimental Study

Many manufacturers ensure supply capacity by using more than one supplier and sharing their capacity investment costs via supplier development programs. Their suppliers face competitive pressure from peers despite the reduced capacity investment cost. Although standard game theory makes clear prediction that cost sharing increases the suppliers' capacity choice and supply chain profit, the complex decision environment of capacity competition makes it interesting to test whether the theory predictions are robust and, if not, whether systematic deviations occur. We present a laboratory experiment study. The experiment data show that supplier subjects invested in higher capacities than what our theoretical analysis predicted, resulting in profit loss for the supply chain. Our econometric analysis indicates that the subjects are bounded rational and their concern for relative standing may be the potential driver of capacity over‐investment. Based on the experimental findings, we study a modified cost‐sharing mechanism that adapts to the behavioral biases. Its performance is validated in a second experiment.     

Production and Sales Planning in Capacitated New Product Introductions

How should a firm with limited capacity introduce a new product? Should it introduce the product as soon as possible or delay introduction to build up inventory? How do the product and market characteristics affect the firm's decisions? To answer such questions, we analyze new product introductions under capacity restrictions using a two‐period model with diffusion‐type demand. Combining marketing and operations management decisions in a stylized model, we optimize the production and sales plans of the firm for a single product. We identify four different introduction policies and show that when the holding cost is low and the capacity is low to moderate, a (partial) build‐up policy is indeed optimal if consumers are sensitive to delay. Under such a policy, the firm (partially) delays the introduction of its product and incurs short‐term backlog costs to manage its future demand and total costs more effectively. However, as either the holding cost or the capacity increases, or consumer sensitivity to delay decreases, the build‐up policy starts to lose its appeal, and instead, the firm prefers an immediate product introduction. We extend our analysis by studying the optimal capacity decision of the firm and show that capacity shortages may be intentional.     

Cost Allocation in Manufacturing–Remanufacturing Operations

For firms remanufacturing their products, the total life‐cycle costs and revenues from new and remanufactured products determine their profitability. In many firms, manufacturing/sales and remanufacturing/remarketing operations are carried out in different divisions. Each division is responsible for only part of the product's life cycle. Practices regarding transfer pricing across divisions vary significantly among companies, affecting the life‐cycle profit performance of the product. In this research, we identify characteristics of transfer prices that achieve the firm‐wide optimal solution. To this end, we consider a manufacturer who also undertakes remanufacturing operations and we focus on price (quantity) decisions. We determine that a cost allocation mechanism that allocates a portion of the initial production cost to each of the two stages of the product life cycle should be used. We also conclude that cost allocation should be implemented as a fixed cost allocation, where charges to the remanufacturing division should be determined independently of the actual quantity of units remanufactured.     

To Preannounce or Not: New Product Development in a Competitive Duopoly Market

In this study, we consider the issue of preannouncing or not preannouncing the development of a new product. Our research is motivated by contrasting views in the literature and varying actions observed in practice. We develop and analyze a game theoretic model that examines the effect of a firm's preannouncement of its product development. Our model is based on a durable goods duopoly market with profit‐maximizing firms. The first firm is an innovator who initially begins developing the product; the second firm is an imitator that begins developing a competing product as soon as it becomes aware of the innovator's product. We assume that consumers are rationally expectant and purchase at most one unit of the product when they have maximum positive utility surplus that is determined by the characteristics of the product, the consumer's marginal utility, and the consumer's discounted utility for future expected products. The innovator firm can release information about its product when it begins developing the product or can guard information about its product until it introduces the product into the market. Our analysis and numerical tests show that, under some conditions, the innovator firm can benefit by preannouncing its product and giving the imitator firm additional time to differentiate its product. We discuss these conditions and their implications for new product development efforts.     

Revenue and Cost Management for Remanufactured Products

This paper considers pricing and remanufacturing strategy of a firm that decides to offer both new and remanufactured versions of its product in the market and is concerned with demand cannibalization. We present a model of demand cannibalization and a behavioral study that estimates a key modeling parameter: a fraction of consumers who switch from new to remanufactured product. As we show, this fraction has an inverted‐U shape, and, thus, the underlying consumer behavior cannot be modeled using the standard methodologies that rely on consumers' willingness to pay (WTP). We find that by incorporating the inverted‐U‐shaped consumer behavior, the firm remanufactures under broader conditions, charges a much lower price, and typically remanufactures more units—leading to an increase of profits from remanufacturing by up to a factor of two as compared with making decisions based on the WTP only. Lastly, we find that the behavior of the low‐price market segment plays an important role because the firm reacts to it differently than the WTP‐based logic would suggest.     

How Inventory Cost Influences Introduction Timing of Product Line Extensions

In the industry with radical technology push or rapidly changing customer preference, it is firms' common wisdom to introduce high‐end product first, and follow by low‐end product‐line extensions. A key decision in this “down‐market stretch” strategy is the introduction time. High inventory cost is pervasive in such industries, but its impact has long been ignored during the presale planning stage. This study takes a first step toward filling this gap. We propose an integrated inventory (supply) and diffusion (demand) framework and analyze how inventory cost influences the introduction timing of product‐line extensions, considering substitution effect among successive generations. We show that under low inventory cost or frequent replenishment ordering policy, the optimal introduction time indeed follows the well‐known “now or never” rule. However, sequential introduction becomes optimal as the inventory holding gets more substantial or the product life cycle gets shorter. The optimal introduction timing can increase or decrease with the inventory cost depending on the marketplace setting, requiring a careful analysis.     

Commercialization of Platform Technologies: Launch Timing and Versioning Strategy

Many emerging entrepreneurial applications and services connect two or more groups of users over Internet‐based information technologies. Commercial success of such technology products requires astute business practices related to product line design, price discrimination, and launch timing. We examine these issues for a platform firm that serves two markets—labeled as user and developer markets—such that the size of each market positively impacts participation in the other. In addition, our model allows for sequential unfolding of consumer and developer participation, and for uncertainty regarding developer participation. We demonstrate that product versioning is an especially attractive strategy for platform firms, that is, the trade‐off between market size and margins is tilted in the direction of more versions. However, when expanding the product line carries substantial fixed costs (e.g., marketing cost, cost of additional plant, increased distribution cost), then the uncertainty in developer participation adversely impacts the firm's ability to offer multiple versions. We show that for established firms with lower uncertainty about developer participation, the choice is essentially between an expanded or minimal product line. Startups and firms that are entering a new product category are more likely to benefit from a “wait and see” deferred expansion strategy.     

Revenue Management vs. Newsvendor Decisions: Does Behavioral Response Mirror Normative Equivalence?

We study and compare decision‐making behavior under the newsvendor and the two‐class revenue management models, in an experimental setting. We observe that, under both problems, decision makers deviate significantly from normative benchmarks. Furthermore, revenue management decisions are consistently higher compared to the newsvendor order quantities. In the face of increasing demand variability, revenue managers increase allocations; this behavior is consistent with normative patterns when the ratio of the selling prices of the two customer segments is less than 1/2, but is its exact opposite when this ratio is greater than 1/2. Newsvendors' behavior with respect to changing demand variability, on the other hand, is consistent with normative trends. We also observe that losses due to leftovers weigh more in newsvendor decisions compared to the revenue management model; we argue that overage cost is more salient in the newsvendor problem because it is perceived as a direct loss, and propose this as the driver of the differences in behavior observed under the two problems.     

Private Labels: Facilitators or Impediments to Supply Chain Coordination

We consider a retailer’s decision of whether to develop an internally produced, private label version of a national brand and the role that this decision plays in coordinating the supply chain. Our model assumes that the perceived quality of the private label is lower than that of the national brand, and we allow for the two products to have different marginal costs. We further allow for a fixed development cost that the retailer must incur to develop private label capability, and distinguish two types of private labels depending upon whether they would or would not be developed as product line extensions by a vertically integrated supply chain. We refer to these two types as first‐best (FB) and non‐first‐best (NFB) product line extensions, respectively. When the private label can be characterized as a NFB product line extension, its development creates adverse cannibalization effects, yet it also helps to mitigate the effects of double marginalization with respect to the national brand. We characterize the conditions under which the retailer will develop private label capability, and distinguish among the conditions under which this is either beneficial or detrimental to the overall performance of the supply chain.     

The Effect of Competition on the Efficient–Responsive Choice

In determining their operations strategy, a firm chooses whether to be responsive or efficient. For firms competing in a market with uncertain demand and varying intensity of substitutability for the competitor's product, we characterize the responsive or efficient choice in equilibrium. To focus first on the competitive implications, we study a model where a firm can choose to be responsive at no additional fixed or marginal cost. We find that competing firms will choose the same configuration (responsive or efficient), and responsiveness tends to be favorable when demand uncertainty is high or when product competition is not too strong. Intense competition can drive firms to choose to be efficient rather than responsive even when there is no additional cost of being responsive. In such a case, both firms would be better off by choosing to be responsive but cannot credibly commit. We extend the basic model to study the impact of endogenized production timing, multiple productions and product holdback (or, equivalently, postponed production). For all these settings, we find structurally similar results; firms choose the same configuration, and the firms may miss Pareto‐improvements. Furthermore, through extensions to the basic model, we find that greater operational flexibility can make responsiveness look less attractive in the presence of product competition. In contrast to our basic model and other extensions, we find it is possible for one firm to be responsive while the other is efficient when there is either a fixed cost or variable cost premium associated with responsive delivery.     

Multi‐Product Quality Competition: Impact of Resource Constraints

We study a multi‐product firm with limited capacity where the products are vertically (quality) differentiated and the customer base is heterogeneous in their valuation of quality. While the demand structure creates opportunities through proliferation, the firm should avoid cannibalization between its own products. Moreover, the oligopolistic market structure puts competitive pressure and limits the firm's market share. On the other hand, the firm has limited resources that cause a supply‐side fight for adequate and profitable production. We explicitly characterize the conditions where each force dominates. Our focus is on understanding how capacity constraints and competition affect a firm's product‐mix decisions. We find that considering capacity constraints could significantly change traditional insights (that ignore capacity) related to product‐line design and the role of competition therein. In particular, we show that when the resources are limited, the firm should offer only the product that has the highest margin per unit capacity. We find that this product could be the diametrically opposite product suggested by the existing literature. In addition, we show that for intermediate capacity levels, whereas the margin per unit capacity effect dominates in a less competitive market, proliferation and cannibalization effects dominate in a more competitive market.     

The Impact of Costliness,Competitive Importance,and Modularity of Investments on Outsourcing

This study is motivated by examples of outsourcing that are not readily explained by widely established economic theories. We extend recent literature that develops the idea that outsourcing can help firms avoid overinvestment by specifying more precisely the conditions under which this thesis is likely to apply. Our extension is realized through a two‐period game theoretic model in which the outsourcing and in‐house investments are driven by (1) the cost required to develop a product or process module, (2) competitive relevance, defined as the module's share in the production cost or the module's importance to the customer, and (3) modularity, defined as the extent to which generic investments in the module can approach firm‐specific investments in terms of the overall product/process performance. The analysis generates predictions about what types of insourcing, outsourcing, and non‐sourcing behaviors are likely to emerge in different parts of the parameter space. Outsourcing to a more concentrated industry upstream emerges at equilibrium when modularity is high, relevance low to medium, and development cost high enough that none or only a subset of focal firms wants to invest. While firms are forced to insource and overinvest due to a prisoner's dilemma when the development cost is sufficiently high relative to the module's relevance, we do not find outsourcing equilibria that solve this problem in a two‐period game with no commitment. This result implies that some form of tacit coordination in a multi‐period game may be necessary. We conclude the study with a discussion of empirical implications.     

Delayed Differentiation for Multiple Lifecycle Products

Modular design allows several generations of products to co‐exist in the installed base as product designs change to take advantage of improved performance via modular upgrades. Use of a common base platform and modular design approach allows a firm to offer updates for improved performance and flexibility via remanufacturing when products have multiple lifecycles. However, as the product evolves through multiple lifecycles, the large pool of product variants leads to the curse of product proliferation. In practice, product proliferation causes high levels of line congestion and results in longer lead times, higher inventory levels, and lower levels of customer service. To offer insights into the product proliferation problem, the authors employ a delayed differentiation model in a multiple lifecycle context. The delayed differentiation model gives flexibility to balance trade‐offs between disassembly and reassembly costs by adaptively changing the push‐pull boundary. An adaptive, evolving push‐pull boundary provides flexibility for a remanufacturing firm to meet changing customer demands. The delayed differentiation model includes both a mixed‐integer linear program and an analytical investigation of the evolutionary nature of the push‐pull boundary. Both field observations and experimental results show that the nature of product proliferation and changing demand structures play significant roles in the cost and flexibility of the evolving delayed differentiation system.     

Acquisition and Disclosure of Operational Information*

We study a firm's strategy for acquisition and disclosure of operational information by establishing linkages among information quality, managerial self‐interest, and production planning. We develop a multistage model in which a manager of a publicly traded firm first receives private information about the product demand and then uses it to make production and disclosure decisions. We consider two prevalent disclosure models employed in the accounting literature: all‐or‐nothing and cheap‐talk models. In the all‐or‐nothing model, it is assumed that any disclosure must be truthful, but the manager can strategically withhold information. We show that the manager commits to acquire the value‐added operational information if (i) the managerial self‐interest in the interim share price is low or (ii) the managerial self‐interest in the interim share price is high, but the fixed disclosure cost is either sufficiently low or sufficiently high. We demonstrate that the firm is better off if the production level is observable to the financial market because multidimensional signaling reduces costs. In the cheap‐talk model, we assume that the manager's disclosure may not be truthful. We show that the manager's incentive to acquire value‐added operational information increases along with the penalty cost for misleading investors. Therefore, a high penalty cost for misleading investors can encourage the manager to obtain more precise information, which in turn improves the firm's cash flow.     

Optimal Policies for Perishable Products When Transportation to Export Market Is Disrupted

We consider a problem where a firm produces a variety of fresh products to supply two markets: an export market and a local market. A public transportation service is utilized to deliver the products to the export market, which is cheap, but its schedule is often disrupted severely. Each time this happens, the firm faces the following questions. (i) For a product that has been finished and is waiting for delivery to the export market, should it continue to wait, at an increasing risk of decay, and when should the waiting be terminated and the product be put to the local market? (ii) For a product that has not been finished, should its processing be postponed, so as to reduce the loss from decay after its completion? (iii) What is the best sequence to process the remaining products, according to the information available? We develop, in this study, a model to address these and other related questions. We find optimal policies that minimize the total expected loss in both the make‐to‐order and make‐to‐stock production systems, respectively. For each finished product, we reveal relationships among the desirable waiting time, the price at the local market, and the decaying cost. For unfinished products, we find the optimal start times and processing sequence. Numerical experiments are also conducted to evaluate the optimal policies.