Optimal inventory and pricing policies for remanufacturable leased products Necati Aras, Refik Gu ¨ llu ¨ Ã , Sevil Yu ¨ ru ¨ lmez Department of Industrial Engineering, Bog ˘azic - i University, Bebek, 34342 _ Istanbul, Turkey article info Available online 10 February 2010 Keywords: Leasing Remanufacturing Pricing abstract In this paper we consider a company which leases new products and also sells remanufactured versions of the new product that become available at the end of their lease periods. When the amount of end-of- lease items in stock is not sufficient to meet the demand for remanufactured products, the firm may purchase additional cores from a third-party supplier. We develop a dynamic programming formulation for determining the optimal price of remanufactured products, and optimal payment structure for the leased products. Our objective is to maximize the discounted system-wide profit over a finite horizon. The profit function consists of revenues that are obtained from remanufactured product sales and leasing, remanufacturing and manufacturing costs, inventory holding and shortage costs. We consider a consumer choice based demand model for mapping a potential customer into one of the product segments (a remanufactured product customer or a customer for a leased product with a particular lease period) for a given price/lease payment vector. We explore several properties of the discounted profit function and provide insight on the behavior of pricing and inventory policies. We also investigate the effect of key product characteristics such as deterioration in age, cost of shortage in remanufacturable product inventory, and key market characteristics such as relative willingness-to-pay for buying a remanufactured product and relative willingness-to-pay for leasing a new product on optimal pricing policies through a computational study. & 2010 Elsevier B.V. All rights reserved. 1. Introduction Remanufacturing (in the context of our paper) is the process of bringing a used product to an as-good-as-new condition by inspecting its components and performing repairing, replacing, restoring operations as necessary. A product is considered remanufactured if its primary components come from a used product. Recently, remanufacturing has been receiving growing attention for various reasons such as consumer awareness, environmental concerns, economical benefit, and legislative pressure. Remanufactured products include photocopiers, com- puters, telecommunication equipment, cellular phones, automo- tive parts, office furniture, and tires. One of the major issues faced by the firms involved in remanufacturing is taking back used products before the end of their useful life so that some revenue can be generated by remanufacturing or reusing them. Another concern is the uncertainty in the quantity, timing and quality of returned products. At this point, leasing turns out to be a viable strategy that helps to better manage the return process. Leasing is a widely used business strategy in United States. According to the U.S. Equipment Leasing and Finance Association (http://www.elfaonline.org/), in 2005 U.S. leasing organizations financed $248 billion of a total of $800 billion in business equipment investments. Leasing helps a firm in getting a consistent flow of used products for remanufacturing, which in fact reduces the uncertainty in the quantity and timing for returns. Furthermore, it has a positive impact on better forecast- ing the quality of returns at the end of their lease time because of the periodic maintenance activities performed by the firm. As a consequence, leasing allows firms to control the quality, quantity and timing of product returns, which is a primary concern of many remanufacturing initiatives. Besides the benefits of leasing for the manufacturer, con- sumers also have advantages when they lease a product instead of buying them. As such, they pay for the service provided by the product rather than for the product itself. Note that only a portion of the product’s price is paid, which corresponds to the proportion ‘‘used up’’ during the lease period. Moreover, leasing products like computers makes it easier for customers to sooner upgrade to the newest technology. Certainly, product characteristics affect the viability of a lease. For example, nondurable products are not suitable for leasing since little value remains at the end of the lease period to be captured, so that no product recovery becomes possible except recycling that is considered to be the least desirable recovery form. In this paper, we consider a firm leasing one type of a new product, and selling remanufactured versions of this products. Contents lists available at ScienceDirect journal homepage: www.elsevier.com/locate/ijpe Int. J. Production Economics 0925-5273/$ - see front matter & 2010 Elsevier B.V. All rights reserved. doi:10.1016/j.ijpe.2010.01.024 Ã Corresponding author. Tel.: + 90 532 3541460. E-mail addresses: arasn@boun.edu.tr (N. Aras), refik.gullu@boun.edu.tr (R. Gu ¨ llu ¨ ), yurulmez@hotmail.com (S. Yu ¨ ru ¨ lmez). Int. J. Production Economics 133 (2011) 262–271