An extended warrantly policy with options open to consumers (Q5935384)

This paper extends the literature by allowing not only a free warranty period but also an option for the consumer to purchase an extended warranty at a cost when the free warranty expires. The consumer is to minimize the total expected discount cost of holding the product. The manufacturer in turn is to minimize the total expected cost of sale, including the production and repair costs, given the consumer's choice. The paper allows the possibility that the optimal solution may not be attainable to the manufacturer given the consumer's choice. It introduces an \(\varepsilon\)-optimal policy, which results in a cost within \(\varepsilon\) of the cost attainable by the optimal solution. This paper is devoted to characterizing the properties of the \(\varepsilon\)-optimal policy and discussing the policy's implications for the long-run average cost of the product to the consumer. The paper considers only two extreme cases. The consumer either foregoes the option of purchasing the extended warranty at the end of the free warranty period or renews the extended warranty \(k\) times until the end of the product cycle. The paper also assumes the timing of product failure is known in advance with certainty.