Integrating Inventory Control and a Price Change in the Presence of Reference Price Effects - A Two-Period Model

Demand and procurement planning for consumer electronics products must cope with short life cycles, limited replenishment opportunities and a willingness to pay that is influenced by past prices and decreases over time. We therefore propose the use of an integrated pricing and inventory control model with a two-period linear demand model, in which demand also depends on the difference between a price-history-based reference price and the current price. For this model we prove that the optimal joint pricing/inventory policy for the replenishment opportunity after the first period is a base-stock, list-price policy. That is, stock is either replenished up to a base-stock level and a list-price is charged, or it is not replenished and a discount is given that increases with the stock-level. Furthermore, we use real-world cell phone data to study the differences between an integrated policy and traditional sequential optimization, where prices are initially optimized based on the expected demand and ordering cost, and the resulting demand distribution is used to determine an optimal inventory policy. Finally, we discuss possible extensions of the model.