Dmitri Nizovtsev and William Novshek
"Money-back guarantees and market experimentation"
JEL codes: D42, D83, L15
Keywords: monopoly experimentation, experience goods, intertemporal pricing, demand uncertainty, money-back guarantees
Abstract: We study the use of money-back guarantees as a form of market experimentation in a market for experience goods with repeat purchases. We show that extending the customer base in the second period by using a money-back guarantee can be optimal only if a monopolist faces an uncertain distribution of buyers. Within the second period, a money-back guarantee allows the monopolist to discriminate between new and repeat purchasers while a pure price reduction does not. Thus, whenever money-back guarantees are feasible, an optimal experimentation strategy includes a money-back guarantee in the second period but not necessarily a price reduction. Pre-publication pdf copy.