Product Returns and Bad Debts in Direct Marketing: Implications for the Targeting Dilemma and Return Policies

The goal of this dissertation is to investigate the role of product returns and bad debts (i.e., customers default, keeping the products without paying for them) in direct marketing. The dissertation constructs several models to study return and bad debt behaviors as well as its combined impact on firm profitability. The dissertation consists of two essays, which have a common research objective, but differ in the theoretical focus and methodology. Essay #1, “Targeting Dilemma at the Bottom of the Pyramid,” sets up a seemingly unrelated regression model and a logit framework to measure the differential impact of bad debt information on the profitability of a firm’s targeting policies in a cross-sectional empirical context. While response is cross-sectional, this data involves multiple waves of targeting of consumers by the firm, the essay solves the endogeneity problem of non-random targeting. Results reveal a positive correlation between customer preferences for the return option and those for the bad debt option. We suggest that the firm should target customers with more payments or more returns in the past when the product return is not allowed. Essay #2, “A Structural Model of Default and Product Return Options with Implications for Return Policies,” further studies the trade-offs between the return and default option by developing a structural model and applying it to a panel dataset from a co-operative database in direct mail. Our research finds that customers have lower price sensitivity and higher transaction fit uncertainty if we ignore defaults. Furthermore, this essay shows that customers’ trade-offs between return and default option are influenced by their return and default costs as well as the transaction fit of the product. Our research illustrates the importance of including the default option when estimating demand and studying the optimal return policies for firms. Overall, the dissertation helps researchers understand how customers trade off costs in choosing the return and bad debt option in direct marketing, and helps managers incorporate these behaviors jointly in making targeting decisions and return policies