Design of a performance-based warranty policy with replacement–repair strategy and cumulative cost threshold

Performance-based warranty policies have become increasingly popular because they can not only help customers hedge against uncertainty about product performance but also help manufacturers build credibility and drive sales. However, adopting a performance-based warranty policy imposes a greater financial burden on the manufacturer because performance guarantee level is typically higher than the physical failure threshold. Finding a balance between the increased willingness to purchase and the associated cost is a major challenge for manufacturers. In this study, we focus on restorable products and propose a performance-based warranty policy that includes a replacement–repair strategy and cumulative cost limit. The warranty terminates either when the product reaches an age limit or when the cumulative maintenance cost exceeds a predetermined limit. We have divided the warranty period into two compensation regions (i.e, replacement and repair region) to increase customer satisfaction and reduce the risk of breakdown. We also consider both positive and negative effects of imperfect repairs on performance deterioration. We compute the warranty servicing cost based on a product performance degradation model. The optimal pricing and warranty decisions can then be obtained by maximizing the overall profit. Moreover, we conduct comprehensive simulation studies to demonstrate the effectiveness of the proposed policy. The results prove that our proposed policy is win-win for both manufacturers and customers. Managerial suggestions are also given to provide guidance for implementing the proposed performance-based warranty policy.