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Design of Extended Warranties in Supply Chains

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Author Info
Li, Kunpeng (U of Illinois at Urbana-Champaign)
Chhajed, Dilip (U of Illinois at Urbana-Champaign)
Mallik, Suman (U of Illinois at Urbana-Champaign)
Abstract

Consider a supply chain involving an independent retailer and an independent manufacturer. The manufacturer produces a single product and sells it exclusively through the retailer. Using this supply chain framework, we develop a game theoretic model to study two commonly observed practices of selling extended warranties: the manufacturer offers the extended warranty directly to the end consumer, and the retailer selling the product offers extended warranty. We show that, of the two decentralized systems, when the retailer offers an extended warranty, it is for a longer duration and generates more system profit. We compare and contrast the two decentralized models with a centralized system where a single party manufactures the product, sells to the consumer and offers the extended warranty. We identify the different causes of inefficiencies in each of the two decentralized models and propose coordination mechanisms that eliminate the inefficiencies. We also provide contracts to achieve both coordination and a Pareto improvement over a wholesale price contract.

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Paper provided by University of Illinois at Urbana-Champaign, College of Business in its series Working Papers with number 05-0128.

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Date of creation: Sep 2005
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Handle: RePEc:ecl:illbus:05-0128

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Web page: http://www.business.uiuc.edu/Working_Papers/Main.asp
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  1. Michael Manove, 1983. "Provider Insurance," Bell Journal of Economics, The RAND Corporation, vol. 14(2), pages 489-496, Autumn. [Downloadable!] (restricted)
  2. Padmanabhan, V, 1995. "Usage Heterogeneity and Extended Warranties," Journal of Economics & Management Strategy, Blackwell Publishing, vol. 4(1), pages 33-53, Spring.
  3. Spence, A Michael, 1977. "Consumer Misperceptions, Product Failure and Producer Liability," Review of Economic Studies, Blackwell Publishing, vol. 44(3), pages 561-72, October. [Downloadable!] (restricted)
  4. Nancy A. Lutz & Philip H. Dybvig, 1989. "Warranties, Durability, and Maintenance: Two Sided Moral Hazard in a Continuous-Time Model," Cowles Foundation Discussion Papers 922, Cowles Foundation, Yale University. [Downloadable!]
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  5. Emons, Winand, 1989. "On the Limitation of Warranty Duration," Journal of Industrial Economics, Blackwell Publishing, vol. 37(3), pages 287-301, March. [Downloadable!] (restricted)
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  6. Emons, Winand, 1988. "Warranties, moral hazard, and the lemons problem," Journal of Economic Theory, Elsevier, vol. 46(1), pages 16-33, October. [Downloadable!] (restricted)
  7. Russell Cooper & Thomas W. Ross, 1985. "Product Warranties and Double Moral Hazard," RAND Journal of Economics, The RAND Corporation, vol. 16(1), pages 103-113, Spring. [Downloadable!] (restricted)
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  8. Heal, Geoffrey, 1977. "Guarantees and Risk-Sharing," Review of Economic Studies, Blackwell Publishing, vol. 44(3), pages 549-60, October. [Downloadable!] (restricted)
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