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Consumption Flexibility, Product Configuration, and Market Competition

Hong Kong University of Science and Technology, Hong Kong, China
mkguo{at}ust.hk

When purchase and consumption decisions are separated in time and when future utility is state dependent, consumers may desire to pursue consumption flexibility by purchasing different products together (multiple buying). This paper analyzes the effects of consumption flexibility on competing firms’ marketing mix decisions, in a model in which future preference uncertainty exists and consumers differ in their preferred product location on a horizontal attribute. The analysis shows that the nature of price competition in such markets is dependent upon whether consumer multiple buying (and thus primary demand) is endogenously induced. When preference uncertainty is important, the firms are involved in a "flexibility trap" in which primary demand is expanded but profits decrease with the spread of consumer heterogeneity. This counter-intuitive result is caused by the firms being induced to over-cut prices to increase primary demand when consumption flexibility is important. In response to this, the firms may configure their products to alleviate the adverse effect of consumer heterogeneity. For example, if preference uncertainty is important, the firms may choose to minimize differentiation on the horizontal attribute, or extend the current product line, to deal with the "flexibility trap." The implications of allowing for positive salvage value, uncertainty heterogeneity, preference correlation, and state-dependent preference configuration are also investigated.

Key Words: consumption flexibility; horizontal differentiation; market expansion; positioning; preference uncertainty; price competition; product line extension
History: Received: June 16, 2004;

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