Selling Discretionary Services to Strategic Customers with Peripheral Consumption

Abstract

Discretionary service industries are those in which customers prefer not to wait in line, but also derive more value from a longer service time; this is common in healthcare interactions or repair settings. In such settings, the service provider often can obtain not only a fixed fee for the service but also a proportion of the price the customer pays for tests and materials consumed in the service process. As the prices customers pay for such peripherals (e.g. medical imaging and drugs in healthcare, spare parts in repairs) are often externally determined (by insurance, government, or third-party providers), their contribution to the service provider's income complicates the typical speed-quality trade-off decision. We investigate this setting, revealing new insights based on a strategic queueing framework in which the service provider decides the service fee and service rate, an exogenous entity determines the price the customers pay for peripherals, and the customers choose whether to patronize the service by comparing the service value and total costs. We find that if the price of the peripherals increases, the service provider reduces the service fee and increases the service time to improve the service quality, but the equilibrium demand rate still deceases. This effect is more profound if the service provider's share of the peripheral revenues is smaller. We also find that in the presence of peripheral consumption, when the customers become more sensitive to service quality, counter-intuitively, the service provider might speed up the service, which lowers the service quality. In addition, we find that social welfare loss can arise due to the peripheral price or the revenue sharing ratio being strategically determined by an external party (e.g., a peripheral supplier). This loss increases in the peripheral price or the external party's share of the revenue, and it is often most severe when the customers' quality sensitivity is either low or high. Finally, we explore the situation in which a longer service time can reduce peripheral consumption (as can occur in healthcare and repair settings), examining highly debated regulation policies that set price ceilings on the service fee. We find that although such policies can lead to more customers being served, they can also result in both poorer service quality and more peripheral consumption per customer, which reduces social welfare, especially when customers are sensitive to the service quality.