A risk tolerance analysis for a joint price differentiation and inventory decisions problem with demand leakage effect

Price differentiation is a commonly used practice in Revenue Management (RM) to improve a firm's profitability. However, most studies in the literature have considered a risk-neutral firm to demonstrate the benefits of price differentiation. The main contribution of this paper is in considering several important objectives while determining the optimal product prices and order (production) quantities for a risk-adjusted firm with demand leakage effects in the presence of a price-dependent stochastic demand. The objectives considered include the maximization of a firm's expected profit and maximizing the probability of exceeding the risk adjusted expected revenue. Closed-form expressions for optimal product prices and production quantities are derived for several of these objectives. A numerical study is also presented to calibrate the impact of a firm's risk tolerance and other factors such as demand leakage, market demand variability on the firm's profitability and its optimal decision.