Product Price, Quality, and Service Decisions Under Consumer Choice Models

Ruxian Wang (), Chenxu Ke () and Shiliang Cui ()
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Ruxian Wang: Johns Hopkins Carey Business School, Johns Hopkins University, Baltimore, Maryland 21202
Chenxu Ke: School of Management, Nanjing University, Nanjing 210093, China
Shiliang Cui: McDonough School of Business, Georgetown University, Washington, District of Columbia 20057

Manufacturing & Service Operations Management, 2022, vol. 24, issue 1, 430-447

Abstract: Problem definition : In this paper, we develop an integrated framework to study a firm’s joint decisions on product price, quality, and service duration in a variety of monopolistic and competitive scenarios. Academic/practical relevance : Product price, quality, and ancillary service (such as maintenance and factory warranty) are arguably among the most important factors consumers consider when making a purchase decision. Meanwhile, they are also seen as effective instruments for firms to achieve market segmentation. We consider a cost structure for a firm in which the service cost depends on the product quality level. In particular, if quality is associated with product reliability (respectively, complexity), the service cost would decrease (increase) in the quality level. Methodology : We adopt the widely used multinomial logit model and the nested logit model to study consumers’ choice behavior and employ mixed-integer optimization and game theory to conduct analyses. Results : We find that with multiple substitutable products being offered, it is sufficient for a firm to provide only two maximally differentiated service durations at optimality. The quality of each product should be set at a level such that the marginal utility to consumers equals the marginal cost to the firm, independent of the decisions on other products, whereas the pricing decision should take into account all products. In addition, consumer surplus increases when the firm can make more decisions. Managerial implications : Regardless of product substitution and market competition, the optimal quality level and service duration for each product can be determined independently of other products. Moreover, service differentiation can benefit consumers and improve the firm’s profitability at the same time.

Keywords: revenue management and pricing; service differentiation; product quality; multinomial logit and nested logit models; competition (search for similar items in EconPapers)
Date: 2022
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Persistent link: https://EconPapers.repec.org/RePEc:inm:ormsom:v:24:y:2022:i:1:p:430-447

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