The Impact of Strategic Consumer Behavior on the Value of Operational Flexibility

Increasingly sophisticated consumers have learned to anticipate future price reductions and forego purchasing products until markdowns occur. Such forward-looking or strategic behavior on the part of consumers can have a signi…cant impact on retail margins by shifting a large number of sales from higher, “full” prices to lower, “clearance” prices. Some …rms, however, have become adept at dealing with the strategic consumer problem by implementing various forms of operational ‡exibility (for example, investing in faster supply chains capable of rapidly responding to changing demand conditions). A …rm famous for this strategy is the Spanish fashion retailer Zara. In this chapter, we explore the strategic consumer purchasing phenomenon, and in particular address how the Zara model of operational ‡exibility impacts consumer behavior (and, conversely, how consumer behavior impacts the value of operational ‡exibility). We examine in detail the consequences of volume ‡exibility— the ability of a …rm to adjust production or procurement levels to meet stochastic demand— and demonstrate that this type of ‡exibility can be highly e¤ective at reducing the extent of strategic behavior. Indeed, we show that in many cases, the value of volume ‡exibility is greater when consumers are strategic than when they are not. We also show that volume ‡exibility is always socially optimal (i.e., it increases the total welfare of the …rm and consumers) and may also improve consumer welfare (i.e., it can be a Pareto improving strategy). We also discuss the impact of other types of operational ‡exibility— design ‡exibility, in which a product’s design can be modi…ed to suit changing consumer tastes, and mix ‡exibility, in which production capacity can be dynamically allocated amongst several similar product variants— and argue that these types of ‡exibility are also e¤ective at mitigating strategic customer purchasing behavior.