Optimal decisions on prices, order quantities, and returns policies in a supply chain with two-period selling

Selling products in a regular period and a markdown period, in the presence of customer returns, is common practice in the retailing industry. It is critical for the retailer to manage returns by choosing appropriate returns policies for the two periods. This paper examines the retailer's customer returns policy strategy, and pricing and ordering decisions, in a supply chain selling seasonal products over two periods. The manufacturer is a Stackelberg pricing leader and sets wholesale prices at the beginning of each period. The retailer may carry over both returns and strategic inventory of new products from the regular period to the markdown period; we show that if the holding cost on new products is low it carries over strategic inventory; it also carries returns to the markdown period, if it offers a Money-Back Guarantee in the regular period. Interestingly, we find that customer returns can serve as a substitute for inventory, and the retailer is less likely to carry strategic inventory from the first period to the second when it offers an MBG returns policy, as compared to when it offers a no-refund policy. We also show that an MBG returns policy is not always a dominant returns strategy for the retailer, if it has the option to carry strategic inventory. We identify the conditions under which either a no-refund policy or an MBG over two periods can lead to a Pareto improvement for both the retailer and the manufacturer.