Understanding the Value of Delayed Discounts in Retail Rewards Programs

Abstract

ABSTRACTIn practice, it is not uncommon for a retailer to incentivize consumers to purchase its products by instituting a standing “rewards program” across its product line. These rewards often take the form of earned credit, calculated based on current spending, applicable toward a future purchase. In this article, we show that despite their euphemistic “rewards” label, the future‐credit promotion structure is often advantageous for the retailer, even given customers who behave rationally. By analyzing a retailer who sells distinct products to heterogeneous consumers with stochastic demands, we find that a time‐lagged discount increases the number of resulting net‐price states, thus expanding the set of rational shopping behaviors and segmentation. We also prove that even while delayed rewards generally yield higher discount levels (relative to immediate discounts), they can generate higher expected profits. We also consider the impact of imposing a spending‐level threshold for customers to earn rewards, and analyze the impact of the distinct shopping behaviors, which then emerge. By proving the efficacy of such delayed‐reward promotion structures, relative to the alternative of immediate discounts, we establish a theoretical basis for explaining why rewards programs are common in retail practice.