Let them stay or let them go? Online retailer pricing strategy for managing stockouts

A challenge for online retail firms is managing stockouts when substitute products are available. Firms have options to set prices or offer substitute products to retain or release the consumers following stockouts. We develop a game-theoretic model in which competing online firms face the decision whether to price low enough so that, following product stockouts, their consumers remain in their stores by turning to unfamiliar substitute products that are in stock or even to attract their competitor’s consumers following stockouts at their competitor, or price high enough to release the consumers to the competitor. We demonstrate that our model’s unique equilibrium is one of three types: retain-consumer, release-consumer, or all-firm-i-consumer. Our analyses of the equilibria show that firms have the opportunity to use prices as a stockout recovery mechanisms, but surprisingly, they may choose not to do so under certain circumstances, dependent on the consumer search costs of unfamiliar substitute products on their sites.